“How to Lead Your Startup During the Economic Downturn (part 2)”
A short discussion between Midstage Institute Startup Coach Roland Siebelink & Doug Miller.
If you haven’t listened to part 1 of “How to Lead Your Startup During the Economic Downturn,” you may click here.
Tech startups have not been immune to the recent economic downturn. Many have been put in a position where fundraising will be next to impossible, so they need to find other ways to survive the dark economic winter until spring arrives. But there’s no reason why any startup leader can’t find a way to guide their company through these difficult times.
For startup leaders looking for a little help, Midstage Institute co-founders Roland Siebelink and Doug Miller have put together a two-part podcast in which they discuss what startup leaders can do during the current downturn and how to lead during lean times. The second part of their conversation shares practical steps on how to cut costs in the short term and position your startup to thrive when the dark times are over.
- Why it’s critical to focus on the parts of your business that are generating cash in the short term.
- The steps to take before you start to lay off employees.
- Why it’s vital for companies to only have one round of layoffs, even during a downturn.
- How to know what employees should be let go if layoffs become necessary.
- How reducing costs by 1% each month can make a huge difference over time.
- How to create flywheels that can be ready to take off and thrive once economic conditions improve.
Doug Miller: Keep focused on sales, but keep focused on profitable sales of profitable products to profitable customers. Work with your finance and sales team to figure out how you model out who those profitable customers are? Realign your sales team, realign your outreach in order to really focus on those. And don’t go outside of those areas. Every deal you sell needs to generate cash in the short term, not over 18 or 24 or 36 months, but in the next six or 12 months needs to generate cash.
Roland Siebelink: Absolutely. And your sales team can actually be a huge lever in driving more cash for the company, especially if you optimize them by selling one to your contracts with payments upfront. And if you sell to enterprises, that’s actually much more surprisingly easy than you would think. You can even give quite a discount for that. A lot of companies in the COVID crisis and in the previous crisis were able to manage through that just by being very creative with their cash optimization.
There’s one point we haven’t addressed in the short-term “cash is king,” Doug, which is the sensitive part about, do you need to lay off people?
Doug Miller: The short answer is probably yes. And there’s also a question of do you need to lay off people and/or are there C players on your team where this is an opportunity to make sure that they’re out of the organization? In the last 24 months before all of this happened, hiring was very hard. A lot of our clients have definitely had people who were doing a good job in some roles and were doing an adequate job. But now in this new reality, those people may not be cutting it anymore.
Roland and I have seen this in every company we’ve worked at. You always have A, B, and C players, and they change over time. You really have to take a hard look at your organization first and say, “Okay, who are the C players? Let’s identify those people.” The key thing here is don’t take action yet. The first thing is to figure out who are those C players.
Roland Siebelink: Can I just add to that point? This is not a judgment on these people as a person, like they will always be a C player. It’s just as often a function of bad fit, or maybe a role that was never thought through, or maybe something that used to be thought of as strategic that’s no longer that important. Of course, it can be a question of bad performance. But that may very well be because the person is not the best fit for the job as we thought they would be. Lots and lots of factors, and it doesn’t mean we condemn them internally toward starvation or something like that. I actually think of it much more as how we can free up people’s futures so that they can find a job that fits them a lot better.
Doug Miller: Very well said. These are people that are C players in their current role, on their current team. Think about all the great sports legends who have moved teams and then had wild success throughout the years. I think it’s really good that as you’re thinking about these people, it’s how they’re contributing to your company and the cash flow of your company and the culture of your company through these stormy seas. It’s not a judgment call about them at all. Very, very well said, Roland.
Roland Siebelink: And I’d like to also contrast what you were just saying. In the good times, hiring is very difficult. We’ve all just lived through that. What often happens is that a team leader will say, “Well, I know this person is not really performing, but they’re still doing something. And I know if I would lay them off or ask them to leave, I could never replace them with anyone else.” That is a real indication of a C player. And yes, in the good times, it may have been too hard to put pressure. But now is the time to act on those people.
In that case, you can often avoid a big layoff altogether and essentially reduce your cost base while not actually reducing the performance of the company all that much. We’ve even seen some companies improve overall performance just because some people felt like they were in the way or they were delaying things or just simply no longer there.
Doug Miller: Very well said. I will tell you that you should identify those C players, you should have that list, you should do it in a fair, legal way that’s fair to the people, obeys all laws in your local jurisdictions, so please work with your HR professionals.
Before you actually decide to have them separate from the organization, you do want to do your financial models to figure out if that’s going to be enough so that you can survive this winter. The worst thing you can do is do a fast lay off of the C players and then realize a few weeks or a month or two later that you have to do a reduction in force. Now you’re laying more people off and now it’s not a layoff and now the company is a good place. Now there’s been a drip, drip, and that’s the one thing that you cannot do in this environment is have multiple rounds of layoffs because you’ll destroy the culture and the motivation inside your organization. Once you identify those C players and you’ve figured out how to optimize your cash, now you have to work with your finance team to come up with realistic financial models for how much more you need to cut given the current environment so that you can survive.
Roland Siebelink: Yes. And a variation of that - I 100% agree with that - and a variation of that that we sometimes see is when companies start working through older strategic priorities and they said, “Well, that project doesn’t seem strategic anymore. This is too speculative.” Again, don’t do the same and start laying off all those people.
For two reasons. One, you would create that same drip effect that is so damaging to the culture of the company. Better to have one bigger action and then have the pain be gone and everyone feels safe. The second reason is very often in the past, you’ve put your most talented people on those more speculative projects, and there should not be a one-to-one relationship just because you canceled the project that that person has to go. If you believed in their talent in the past, you think they still have it, it may actually make more sense to put them back into a core operation and maybe look in that core operation like “Did we not have somebody who was performing less that would be a better choice for putting on the list.”
Doug Miller: Very well said. You have to figure out where you’re going to have profitable cash. You need to figure out who your C players are. You’re going to figure out which projects you’re not going to keep around. And you’re going to figure out your financial model, exactly how much of your expenses you need to cut and if that’s going to impact a head count past those C players given the environment.
Now you really have to work with your executive team to come up with the full list of people that are going to be impacted by this and for the people remaining, what their new assignments will be. And then and only then are you ready to actually do the dreaded lay off of someone at the company. And these are not fun. Roland and I have done dozens of these. No one wants to do this. They’re the least fun part of leading a company. But you have to do the right thing for the company overall and for the employees that will remain. And so, making those hard decisions now and making them quickly and making them only once is going to be the best thing.
Roland Siebelink: Let’s say on top of that, making them fairly and professionally. One element of the fairness I want to highlight, in most organizations, there’s too much management and not enough contributors. This is also an opportunity to correct that. Whenever we run one of these threaded layoff projects - and I can assure you, they’re definitely not fun; the only thing that’s even less fun is seeing an entire company go bankrupt because they did not make the correction on time.
One correction we very often insist on is that there’s a proportionately higher percentage of leaders and managers that are put on the list than individual frontline contributors. Why? Because it’s those people that are often working on the more speculative projects and on things that are not providing immediate value to the company. And the worst is if you were to cut the capacity for generating the business at the frontline while keeping all those speculative projects in place. We typically want to see relatively more leaders and managers be put on the list so that the company that survives is a contribution machine with a lot of individual contributors but not too much management.
Doug Miller: Well said. If you’re thinking you need a 10% reduction in costs, we would challenge you to go to 12 or 15%. And if you land at 15%, then you want to think about - that probably means your executive staff needs to be cut by 20 or 25%. Your directors and VPs are probably being cut at 20%. Your managers are being cut at 15 or 12%. And then your frontline employees are only being impacted by 2% or 3% or 4%.
Roland Siebelink: Because the costs are typically lower at the frontline, you will still add up to the percentages that Doug was outlining upfront.
Doug Miller: Exactly. You can get a lot of scale out of that. Never easy conversations, never fun conversations, but necessary conversations in the given environment.
Roland Siebelink: There’s also a few very easy buckets that are typically part of this cost reduction effort. I would highlight recruiting. I would highlight training expenses. And also, in general, just expense claims that people have, particularly, many sales forces. I learned this in the media and advertising world in London where they pay people generally extremely low salaries but they give them almost unlimited expense accounts. They were actually encouraging people who are just out of a university to keep inviting all their friends for lunch or for dinner or for drinks, all expenses paid. Why? Because that helped them generate the stories and the business contacts to drive business. But also because in lean times - and these are very, very cyclic sensitive industries - in lean times, it gets much harder to cut everyone’s salary by 10% than to say, “We’re cutting the expense budget by 70%.”
Doug Miller: Yes, very well said. And that was seven zero, not one seven percent.
Roland Siebelink: It’s very easy for leaders to say, “Folks, the expense budget has gotten completely out of hand. We’re not doing expenses for a month and then we’re going back to 20% of what it was before.” Try to do that with salaries.
Doug Miller: You won’t have any employees left. The other place I would look at is your marketing budget, especially how much you’re spending on outbound. If it’s DR, if it’s profitable, if it’s generating cash, then spend the money. If it’s doing longer term brand things, if it’s more about rebranding, it’s more about those speculative things that you think have opportunities for long term growth, right now is the time to cut that stuff back. Stop it, put it on hold, and then wait for six months and see what’s happening and how long this winter is going to be.
Roland Siebelink: Yes. Building on that, what we often see in growing startups is what I would call experiments gone out of hand. Marketing departments that are running six, seven, eight channels at a time, but when you look at the numbers, almost all leads come from one or two channels. This is the time to start saying, “Well, actually we have one bread and butter channel and then maybe one channel at a time that can compete against it, but not seven or eight.” All of these have a lot of fixed costs associated with them, and it’s very easy to just reduce costs there without actually seeing a big impact on your lead generation capacity.
Doug Miller: Very well said. All those speculative things - whether they’re marketing activities or whether they’re products, whether they’re solutions or their new regions, those are the things that are speculative - now is not the time to invest in the future. Now is the time to invest in the now.
Roland Siebelink: Absolutely. On the engineering side, we can highlight any recoding or re-platforming initiatives as things that are typically not apt to do in a time like this.
Doug Miller: Unless they’re going to lead to immediate cost savings. If you’re going to reduce your AWS bill by 20 or 30%, then maybe those are very well worth it. But definitely not for new architecture, new technology, cool technology.
Roland Siebelink: Or rewriting an entire platform that would pay off in five years time. Those are the things we’re looking to call from short-term cash projections.
Doug Miller: Awesome. Ultimately, we’re doing all of this to actually get to an infinite run rate? Can you get to break even, whereas we talked about earlier, regenerating cash.
Roland Siebelink: Absolutely. That’s the goal that if you can get to it would be ideal. That you are what Y Combinator calls default alive. Even if you’d never raised investment anymore, you would at least stay alive. If you can get to your 30% free cash flow, you’re in the top rate of startups, the top tier of startups, and that’s even better. But at this point in time, survival comes before thrival. You want to make sure that you are default alive and hopefully will never need to raise money again.
It’s okay to say at some point in time, if we want to start growing faster again, then we would make a bid to attract investment. But be ready to do that on your own terms when the market is more attractive again, and that you can wait the winter out to see when real springtime is there again.
Doug Miller: Something that I’ve learned from Roland is the power of the 1%. If you can reduce costs by 1% on a monthly basis, you actually get 13% savings in year one. Think about that. It’s a 1% savings each month, 13% for the year that scales up if you can get to 2%. But there’s many times that you can look across the board and say, “Well, if we reduce all of these things by 1% across the board, you can have massive, massive savings as you compile one and two and three years on top of that.
Roland Siebelink: Yes. And I would say that that’s a really good strategy to make the cost sustainable in the midterm. One percent is not going to cut it in your initial resetting plan, of course. But after you’ve gone through the short term exercises, then it’s about time in the midterm to infuse more of that cost consciousness in the company. What Doug is suggesting with a 1% every month is a really good target to keep people cost conscious for a longer time.
The other thing we often recommend in that case is to work with what we call widget targets. And that really means that for every department, we identify the units they produce, whether it’s leads for marketing or features for engineering - we have a lot of other examples, of course - and we have managers commit to volume targets as well as cost targets on these widgets. That makes their business a lot more tangible than if you just try to manage them with a financial budget.
It may not actually deliver much into the very short-term, but in the midterm, you get that same compounding effect that Doug was just referring to. People take more control of their part of the business. They get much more cost conscious. And more importantly, that one widget target starts being prioritized over everything else. A lot of the supplementary activities that may not lead to business results right away just become less attractive in the eyes of the leaders and the managers, and that drives enormous efficiency.
Doug Miller: Very well said. Thinking about the midterm, what are the other things to think about there as we move out of the immediate cost cutting, you’re now trying to instill cost savings, spending money wisely, making sure focusing on cash flows. We talked a little bit about widgets, and that’s really about optimizing the end to end delivery and optimizing the cash flow of the organization. Everyone is held accountable but also can innovate inside their own areas.
As you think about that, how do you think about also focusing on long term strategic differentiation so that when winter ends, you can be ready to seize the market from your competitors?
Roland Siebelink: Before we go there, I would say there’s still one or two things you can still do in the midterm that are really good while you’re in between the winter just hits and now we’re waiting for spring to arrive. One is to build on that widget target and be able to set the mode of the company. And I think of this - a mode is essentially if you imagine a human or an animal body, it’s in the mode of doing something; the entire entire body is focused on, I’m currently eating or I’m currently sleeping, or you can imagine some other modes that the body may be focused on.
For a company, the mode is also the overall message that you send to the company. Our focus is this. And so the mode up to a month ago for most startup companies was growth at any cost. Now, the mode is going to be cost savings at any price. In the midterm, it’s going to be more like a pendulum where you say, “Okay, either we are still producing the same but at ever lower costs - probably more of what you’re focused on now - and then as things started improving a little bit, you start saying, “Can we at the same budget start producing a little bit more?” And when I say more, I mean more widgets. For marketing, that might mean, can we produce a little bit more leads at the same cost. For engineering that might mean, can we produce more features at the same cost, and so forth.
It’s that swaying between how do we stay efficient but still start focusing on growth. That is something that you can Institute in that midterm. You also mentioned end to end, Doug. And I think that’s actually the one that pays off a little bit slower but much stronger than anything else over time. It’s to start making people conscious of the end-to-end value stream. A lot of the learnings there come from lean management, the Toyota production system, and other areas like six Sigma, where the realization is that optimizing department by department is one thing but where the real cost savings are to be found is the flow between the departments. End to end, all the way from the beginning to the end.
We often work with companies to institute what we call value engines, and all the engines have to sync up together and work in unison to drive the real value. If you make people conscious of that and you have them focus on how we can make sure there’s fewer mistakes, all the handovers are correct. Can we move them faster? Can we be more in line with just what the customer is asking for and not just a lot of other things that have slipped in historically?
On the marketing and sales side, we’re often so happy with just a 10% efficiency increase. I will tell you from my own experience in this work, it may not come quickly, but after six months to a year, you can often see 50, 60, even up to 90% efficiency increases just by having the teams focus on how we can make this end-to-end flow more efficient. And that’s definitely something I would see companies focus on in the midterm while the initial crisis stuff has been taken but while you’re waiting for spring to really kick in.
And then going to the long term, this is when you are starting to see some new opportunities arise. When new capital is becoming available. When you can actually start making pitches again for people investing in you. How do you stay efficient while thriving in the long term?
I think the learning that you can take out of these economic times is to really be more and more conscious of the core differentiators that you have. Where do you really make a difference? And could you turn those four, five, six factors into a fly wheel that drives everything that you do and where you should truly maintain your differentiation and keep investing to be unique in that factor.
Doug Miller: Totally great. And through this time period, as you build out the ability to optimize the cash flow, get your end-to-end processes refined, as we come into the spring, you’re going to be ready with these flywheels turning, creating cash, creating happy customers, which will then allow you to get back into some of those speculative projects, which will increase your value - maybe not 10X better than competitors, maybe 20, 30, 40X better than your competitors - so that you can own those markets, make them incredibly defensible. And then you can look at how do I move into adjacent markets? How do I sell this to a slightly different customer? How do I expand into Europe or expand into North America, expand into South America?
That’s really what we’re looking for in these types of environments. You can almost think of a really, really bad Jimmer King. This is going to make you into a very fit organization. You’re not going to enjoy it. It’s not going to be that much fun, at least initially. But as you build a flywheel and as you get into shape, your muscles will stop hurting. You’ll actually feel good. The endorphins will be flowing. Organizationally, people will be in a flow. People will know what they have to take and what they have to deliver along the value chain. They don’t have to think, they can just do their jobs. And that’s when people really have joy at work and organizations thrive.
Yes, we started this with doom and gloom. And yes, there’s a lot of work to do and we’re not to spring yet, but when spring comes - and it will come - the companies that survive are going to be the ones that are really poised to dominate. And that’s what we want you all to be.
Roland Siebelink: Yeah. That journey from product-market-fit to product-market-dominance is really what we described in our first book, Scaling Silicon Valley Style, that has that flow from not just starting with distribution,but then deepening the product, disrupting your market, making it defensible, and then duplicating across different adjacent markets to have a truly defensible fortress.
Doug Miller: Very well said. I think right now we want to talk a little bit - just in conclusion here - that winter is here. We don’t know how long it’s going to be. But for valuations, it may be 24 months. Everyone should realize that and everyone should be operating under that assumption.
Roland Siebelink: Assume it will be hard to raise cash in the next 12 and assume that your valuations will be a lot lower than expected for at least 24.
Doug Miller: Exactly. You need to have enough cash to survive 12 to 24 months. And if you can get cash flow positive, that’s how you’re going to unlock additional investments during this time, potentially. Regardless, you’ll control your own destiny. And right, now it’s all about controlling your own destiny. Growth doesn’t really matter. Cash matters. If there’s one thing you take away from this, please remember cash is king.
Roland Siebelink: Cash is king. As they say, revenue is vanity, profit is sanity, but cash is king.
Doug Miller: Yes. Very well said. In the short term, we want to make sure that you’re all acknowledging what’s happening in the world. The world has changed. Your perception has to be crystal clear. You have to go look in the mirror and see what’s approaching your company, your organization. Next, you really need to reassess where you’re making money, where costs are too high, and as much as you possibly can, make those cost cuts all at once in a prudent, timely, strategic manner. And then communicate to the company that you now have the organization going forward that’s going to be all to thrive through the winter and survive, and then be positioned with a flywheel by doing that hard work of that process engineering, which sounds really boring, but small little steps month over month get better and better, as you then have flywheels coming out of this winter, so in the spring, you’re ready to soar.
Roland Siebelink: Absolutely. I think that’s a really good summary of what we try to discuss at length in this initial podcast recording. We plan to make more detailed recordings and blog posts about some of the themes we brought up - and I’ve mentioned some of them already. But this is our first big take on how to handle dealing with the downturn and how to be an exemplary leader in these lean times.
Doug Miller: Awesome. Great job, Roland. I know I’ve learned a lot from you. I learned a lot from our clients. I hope that these tips are helpful to everyone out listening. Just buckle down; it’s going to be a wild ride. But smooth seas will be coming in the future.
Roland Siebelink: I learned a lot from you, as well from our clients. That is one of the joys of working at the Midstage Institute, to be learning from startups every day. And if founders need particular help, then reach out to us. We are at [email protected] We can always help mid-stage companies. Our typical target group - to repeat - is companies with $5 to $50 million ARR, between 25 and 250 employees. And those we can really help deal with the downturn and get through these lean times.
Doug Miller: Everyone, have a wonderful evening, morning, weekend, afternoon, or any other way to find the time that’s coming in the near future. Thank you. Roland.
Roland Siebelink: Thank you for listening, everyone.
Roland Siebelink talks all things tech startup and bring you interviews with tech cofounders across the world.