Once you obtain funding, it will be worse than hitting the Lottery. Instead of hearing from your long lost third-cousin, you will be inundated with an avalanche of ‘congratulatory’ emails, calls and letters from people who want to relieve you of the burden of your hard-earned equity round. Many such ‘congratulations’ will come from consultants.
An entrepreneur’s two most important assets are her time and money. There is nothing under the sun that will suck up your time and money faster, more prodigiously and less effectively than a consultant.
Please Look at My Watch and Tell Me What Time it Is
Jack Black was wrong. In the movie School of Rock, his irreverent character tells a group of teachers, “Those who can’t do, teach. Those who can’t teach, teach gym.” In fact, a more accurate statement would be, “those who can’t teach, consult.”
Can a fee-based consultant ever economically add value to a startup? I suppose so, but I haven’t ever seen it. Surely, among the tens of thousands of effective and honest consultants running about, a significant number of them are well positioned to help startups – right? Sadly, the answer is “No.”
Why are consultants usually an ineffective use of a startup’s funds?
Consultants are best suited for Big Dumb Companies (“BDC’s”) who want someone to tell them what they already know in order to substantiate a preordained course of action. For instance, many a BDC CEO has initiated a consultant to study cost cutting issues before announcing a significant layoff. In this way, the consultant becomes the scapegoat behind the tough decisions that the BDC’s do not have the guts to execute on their own. Startups cannot afford such scapegoat luxuries.
There is an inherent conflict in a consultant’s business model and the needs of a startup. Consultants trade their time for money whereas startups need to trade their money for results. In order to eliminate this conflict, any consulting relationships you establish must be performance-based. In this way, by tying compensation to results, your startup can trade its money for even more money.
For instance, if a consultant proposes to help you with public relations, pay them a commission equivalent to the greater of a flat fee per story placed or a percentage of revenue generated from the PR coverage. Tracking such revenue can be a challenge but is possible to approximate the revenue impact of PR activities via the use of unique URLs, customer surveys, etc.
If a consultant claims they can enhance your marketing efforts, pay them based on their direct impact on your incremental sales. Basing a consultant’s compensation on the incremental revenue they generate is a great example of a deal that is on The Fringe (for other creative approaches to partnering, see Agreements on The Fringe).
Performance-based deals are healthy for all parties. In the ‘normal’, non-startup world, a consultant will generally accept any engagement in which the client can pay for their services. The relative value of the consultant’s impact upon the client’s business is usually not the consultant’s primary consideration when evaluating whether or not to accept a particular engagement.
However, when you pull the consultant out on The Fringe and negotiate a performance-based deal, you are ensuring that they will only enter into an engagement with you if they believe that they can move the needle and make a real impact on your adVenture. The consultant will be compelled to vet your engagement based on their ability to drive concrete results, rather than your wherewithal to pay their invoices. Thus, performance oriented deals reduce the risk that your startup will waste its two most valuable resources.
I hope you are not thinking, “But John Greathouse, the consultant cannot take on my execution risk. What if they give me great advice and I cannot properly implement it?” If the consultant truly believes in you and your team, then they will be willing to share the execution risk with you.
Time Is Not Money, Time Is Everything
Performance-based deals can effectively mitigate your monetary risk of entering into a non-productive consulting relationship. However, it is more difficult to address the risk associated with the misuse of your time.
One of the best things about being an entrepreneur is that there are no rules. You can do anything you want with your time.
One of the worst things about being an entrepreneur is that there are no rules. You can do anything you want with your time.
The lack of rules and structure causes many entrepreneurs to work incessantly. Such entrepreneurs soon discover that no matter how hard they work, there is never enough time to do everything that has to get done. Given all the demands on your time, the hours spent educating a consultant regarding your business are costly. This time investment is even more expensive when you consider that the consultant’s edification will likely be lost to your organization once the engagement is terminated. Unlike employee training costs, which can typically be spread over years of service, the relative return from training a consultant is modest and pricey. In addition, when a consultant moves on to another client, any institutional knowledge they may have gained walks out the door with them.
Passion Cannot be Outsourced
Any function within your startup that involves iterative learning, passion and/or close proximity to your customers should not be outsourced. Such positions include: PR, Sales, Product Development, Lead Generation, Strategic Planning, Fund Raising, etc. As noted above, you can contract with a performance-based consultant to assist with PR, but never place sole responsibility for the execution of a passion-driven duty into the hands of a dispassionate third party.
The relative degree that passion is a prerequisite for success and the rate of iterative learning both diminish as your company expands. Thus, as your startup matures, many of your operational functions can be successfully outsourced. This is why BDC’s can often successfully outsource a wide variety functions. Their story, market positioning, products, etc. are well defined and broadly understood. BDC’s focus on executing defined tasks, not on defining the tasks to be executed, as is often the case at a startup. At the early stages of your company’s life, you cannot rely on disinterested, hired guns to define your company’s key tasks.
To fully appreciate why consultants often do not fulfill a startup’s needs, it is important to understand the typical consulting engagement sales cycle.
When a consulting firm tries to get their hand in your pocket, they usually lead with their Rainmaker. This is generally an engaging, glib, attractive person that you can almost guarantee you will not see again, once the Engagement Letter is signed. Instead of focusing on the welfare of your business, the Rainmaker will be off making rain somewhere else while your engagement is managed by worker bees who are likely biding their time as a Junior Consultant before earning their MBAs with the intent to graduate and become Rainmakers in their own right.
As described in Roping In The Legal Eagles, service firms are pyramids. A handful of Rainmakers sit at the top, while most of the ‘real work’ is done by less experienced and therefore less insightful folks. The larger the firm, the larger the pyramid. The larger the pyramid, the greater the distance between the Rainmaker who closes the sales and the worker bees who have to deliver on the Rainmaker’s promises.
Thus, do not be enamored by a service firm’s size. Size does matter, but in an inverse manner. The larger the firm: (i) the greater the disconnect between the Rainmaker and the workers, (ii) the higher the personnel turnover, and (iii) the more time you will be forced to expend training each new crop of MBA-wannabe’s. Remember – your adVenture’s time is precious.
Rhymes with a Type of Pasta
One startup I joined was very proud that they had been ‘accepted’ as a client by a prestigious Silicon Valley law firm whose name rhymes with a type of pasta (they are lawyers after all, so I have to be careful here…). Over the course of several months, our lead contact changed repeatedly as the various worker bees departed the firm to join dot-bomb startups. With each change in staffing, I was forced to reacquaint the latest Junior Lawyer with our business, re-explain the current legal issues we were in the midst of addressing, etc.
The final straw came when I asked the latest 25-year old a simple ‘yes / no’ question related to stock options. After I posed the question and my proposed response, he incredulously asked, “How do you know that is the correct approach?” I told him that I had previously taken a company public, but that it had been a couple of years since I had addressed the specific issue at hand. Unable to confirm if my proposed approach was correct, he indicated that he would have to check with his SEC group and that ‘someone’ would get back to me. ‘Someone’ never called and I fired the prestigious and inept firm shortly thereafter.
The ultimate irony is that when we later sold the Company for a substantial amount of money, it was discovered during due diligence that the prestigiously inept firm (whose name rhymes with a type of pasta) screwed up a basic corporate filing. This mistake, if left uncorrected, could have resulted in significant negative tax consequences for both our employees and the company.
The firm, (did I mention that the name rhymes with a type of pasta?) never admitted they had made a mistake (they are lawyers, after all) despite the fact that they put in a lot of non-billable hours trying to cover their collective backsides. This rookie error by one of their junior lawyers resulted in some truly unnecessary eleventh hour heartburn for everyone involved in the deal. Who knows what other egregious errors the inexperienced, under supervised junior lawyers would have made at the ‘prestigious’ law firm if we had not switched to a smaller, more capable firm in which our primary point of contact was a Senior Partner, who had over twenty-years of legal experience.
Get A Company on The Fringe
If you must work with a consultant, force them to join you on The Fringe by implementing one or more of the following suggestions:
Base their compensation upon quantified, clearly understood results; preferably something that can be measured in incremental gross revenue or direct cost savings; nebulous goals will lead to nebulous results and an ineffective use of your vital time and cash
Ensure that the Rainmaker is engaged in your engagement; include in the Engagement Letter periodic meetings and other regimented communications that ensure you are being given attention from the top of the pyramid
Allow the consultant to invest in your future success; in lieu of cash, grant them equity in the form of Non-qualified Options that vest based upon the attainment of quantifiable goals; keep in mind that adverse tax consequences may be associated with such equity grants, so check with your accountant before deploying this form of compensation
Negotiate a startup discount; you may be surprised how often you can get a break on such fees, especially if the service provider truly believes in your future viability
Pull a Blondin (see: Do They Believe?); make the service provider prove their belief in you by getting on your back as you step onto the proverbial entrepreneurial tightrope. Having consultants accept equity in lieu of cash, define their compensation based on concrete results and defer their payment until the attainment of certain milestones (including fundraising) are all ways you can execute the Blondin Test. If the consultant really believes in you, your team and the prospects of your adVenture, they will be willing to ‘get on your back’ and trust that you will make it to the other side unscathed.
In the end, if you determine that a consultant is just looking to exchange their time for your precious money, smile politely and give them your competitors’ contact information, followed by a short, sharp kick in their arse as you usher them out the door. Unlike many ‘lottery winners’, you are looking to turn your fundraising cash into a nice return for your shareholders, not a windfall for those who cannot teach.