Paying Employees During the Startup Stage
Q: I need to hire three employees to help get my business started, but I don't have enough financing to pay the salaries for all three. Should I try to raise more money before hiring anyone or should I hire just one employee and hope that I can make it work with limited resources?
A: Every entrepreneur faces the question of how to pay employees during the startup stage when money is tight and the business has yet to prove itself.
You'll be able to determine the right answer to your question by understanding the nature of your business and your appetite for risk. If your business growth is best executed in small steps, your staffing strategy should be very different than if your business needs financing in large portions. For example, if your business is a restaurant, it would be foolish to try to launch it without adequate staff and equipment. Alternatively, a one-man army could be the best way to start an import-export business or consulting practice.
If you're convinced your business needs three employees to get off the ground, you shouldn't launch it until you can hire all three. This is a surefire way to increase the possibility that your business will fail due to poor execution. If you don't have enough money to pay for three employees, there still might be a way to make it work. Here are some creative ways to compensate your employees during the startup stage:
- Hire stay-at-home moms and dads. Part-time employees, particularly stay-at-home moms and dads, are a secret weapon for startups. When my company first launched, we advertised for "flex time" employees in local papers and were surprised by the number of highly qualified applicants we received. For less than half the cost of full-time staff, it's possible to attract experienced employees to your company. If you plan to hire a stay-at-home mom or dad to work at your company, be wary of assigning them critical time-sensitive projects. Keep in mind that if you're not paying them enough to cover adequate child care, they'll be unable to prioritize business meetings over personal meetings if they have a sick child or family situation to deal with.
- Defer compensation. One of the most common ways that cash-strapped entrepreneurs hire employees is by convincing them to accept deferred or delayed compensation. There are different ways to do it: a deferred cash bonus until the business generates a certain amount of revenue; an increased salary when the employee hits performance milestones; or back-pay provided when the business becomes profitable. I recommend offering an increased salary rather than a cash bonus or back-pay because one-time lump sum payments tend to offer short-lived gratification and tend to give you less bang for the buck. In addition, employees feel more pride when their salary is permanently increased due to business progress or personal achievement.
If you choose to offer deferred compensation, it's very important to consult an attorney about how to write the offer letter for the employee. For example, even using the term "deferred compensation" (as opposed to "bonus payment" or "performance incentive") can create a binding liability for your company. This is one of the areas where spending $200 for an attorney to provide you with a sample offer letter could save you thousands later.
- Use equity and stock options. Another alternative is to offer employees equity grants or stock options instead of cash. This is only a viable alternative for companies that have realistic prospects for liquidity; in other words, don't offer stock options if you don't think they'll be worth anything. Most companies are never sold and never have an IPO, so it's unlikely that stock options are a worthwhile compensation tool.
Nevertheless, stock options tend to motivate employees more than cash bonuses at the startup stage. The cocktail party crowd has romanticized stock options, and employees still find them appealing, even if they're unsure about their true value. My advice is to avoid stock options (and the legal costs of setting them up) unless you genuinely believe they'll be valuable one day.
- Employ interns and volunteers. Hiring unpaid staff is an obvious solution for startups but one that's often overlooked. Colleges and universities are teeming with bright young workers willing to work part time or full time during vacations to gain experience. Just posting an internship announcement at your local college will draw applicants.
It takes effort to set up a win-win situation for both intern and employer, however. It's important to remember that interns are not like part-time employees who are primarily interested in a paycheck: You can't expect to give them menial work for the duration of their internship. One way to motivate interns is to ask them to list their learning objectives for the internship. Have monthly meetings with them to track how well they're doing on reaching these objectives. Then even doing menial work becomes tolerable if it's put in context.
- Focus on revenue. As any entrepreneur will tell you, the best way to pay for three employees when you only have the financial resources to hire one is to generate more revenue. The first of the three employees you hire should be the one that will get you closest to generating sales so you can afford to hire the other two. It's never too early to start selling-or pre-selling-your product to get funds in the door.