art marks: the investor’s point of view
I'm Art Marks. I've been in the venture business for about 20
years. Prior to that, I had about 15 years of operating
experience. The firms I've been involved with have funded some
350 or 400 entrepreneurial companies, of which about 140 or 150
have gone public. I have been involved in 40 or 50 of those
companies myself, and I've been on the boards of 12 to 15 public
This is a very rich topic. I think there is some
redundancy, but there are a lot of different points of view. I'm
going to try to glean a few things from my experience that might
be useful to you. I come from the narrow investor point of view,
but with some significant empathy for the challenges and issues
of a CEO. I'm going to talk about the legal framework of why we
have boards and what I think they do. Then I'm going to talk
about what you can do to make them effective, as well as the
typical mistakes I've seen, and a couple of comments about how
you attract good advisors or board members.
When you are working in an entrepreneurial company, you
go through a term sheet negotiation and you end up with a
shareholders' agreement. You try to envision everything involved
in setting up the right structure to prepare and to protect
everyone's interests. This is true in the regulatory
environment, and the legal environment. What everybody has
decided is that all of the things that we can't put into the
documents and can't figure out in advance, we will give the
authority and responsibility to somebody else to make the
decisions in the interest of all concerned, and that is the
board. Your board is empowered and they're accountable. That is
what the Enron situation is all about -- all the stuff that
people can't anticipate, and applying good judgment to the
decisions you make in the interest of the shareholders. That is
something to think about. You want a group that is going to take
on this power and be able to deliver good decisions under very
unknown environments to help you make the right decisions.
Sometimes those people are decided upon through your
negotiations about representation during fundraising.
You always want to try to build a relationship with those
players to get good advice from their diversity, and from the
kind of trust relationship you have with them. At the same time,
they've got what is often called a fiduciary duty, that
is, the financial responsibility to represent the interests of
all the shareholders.
It used to be that people would joke and say that the job
of the board is to hire and fire the CEO and declare dividends.
That was sort of like saying that we don't really do anything,
we just decide whether the CEO is doing a good job or not. That
is one element, but I think that, more and more in our society
and in our regulatory environment, there is an expectation that
the board is going to take its responsibilities seriously.
When you look at the board, it's a team of people who are
all involved in something. Mary talked about the movies. For me,
the movie that best exemplifies a board is the Fellowship of
the Ring. That is because we're all on an adventure, all
kinds of imaginary creatures come into it -- meaning things that
you didn't expect -- and it's endless.
So what can you do? Well, Raul and Bruce talked about it.
One of the things you can do is to learn how to run an effective
meeting. Nothing takes away from this process more than people
who don't know how to do this. Get the information in advance.
What do you want to have happen in this meeting? You want to
take all the board’s experience and knowledge and get it to
work on an issue or to help solve a problem that is hard for you
to solve yourself. If you can solve it yourself, then you don't
need the board. You want to bring them into the process of
making decisions, get them informed -- not just in a board
meeting, as Bruce said, but all the time -- and get them to
apply their brains to solving the problem.
Let me say parenthetically that it's not the board meeting.
Don't get distracted and say, “Well, I have to run a good
board meeting!” It's a board. It's a group of people. Some of
the process takes place in the meeting, some of it takes place
at coffee, and some of it is a phone call, or an email. It's the
group. It's the team that you are trying to bring forward to
help you solve problems for the company. That is why open and
honest communication is important, as is having an agenda, and
finding out from people what they think the issues are
that you have to address. That is why you need balance in the
board. You want to get input from everybody, and you want to use
that input to make decisions. You'll learn that the boards are
not monolithic. They're made up of people with different
opinions and they won't all think the same way on everything.
In fact, you'll often find that there are some people who
are the leaders of the board, or more influential. Often that
will vary based on what the topic is. Everybody may look to one
person, maybe the ex-CFO of the company, for the accounting
issues. They may look to another for compensation issues,
somebody else for financing or strategy or technology. Use those
inherent leadership qualities to help you delegate. Move the
decisions to different people to help you solve problems.
You can look at a board and say, “I’ve got a problem.
I hate this guy, and I'll get rid of him.” You can try to do
that, or you can say, “I'm stuck with these people. How am I
going to develop a trusting relationship, or at least get their
knowledge?” Don't have this passive-aggressive attitude where
you schedule the meetings when that person is out of town. Don't
do that kind of stuff, just confront the issues. Move forward,
just like you're in a family, but don't become a dysfunctional
family. Respect different points of view. Confront problems.
The other piece of advice I would go along with is to
keep it small. My definition of small is smaller than Bruce's.
My definition of small is five to seven people. An
entrepreneurial company doesn't have the bandwidth to deal with
much more than that. You don't have the time for more than that
for people to have the discussions and feel a part of it, so
that would be my advice.
In terms of the easiest mistakes to make, I'm going to go
through three. One is the mistake of control versus trust.
People say, “Well, the board is empowered to make these
decisions. I don't want anybody to have the ability to make
decisions that I don't agree with, so I want to bring in my
mother and my father and my brother-in-law.” The job of the
board is not to be your best friend. If that is what you're
looking for, then you're not trying to build a large,
entrepreneurial company. The board’s job is to be the shareholder's
best friend, and that calls for independence and variety, not
The second problem is that while the board represents the
shareholders, some members of the board sometimes represent
shareholders with special interests. In the venture business,
we'll often set up a special security which has privileges
beyond those of the common shareholders, something like a
liquidation preference that gives us the right to the first
cash. Sometimes this is perceived as a conflict. Sometimes it is
a conflict. You have to recognize that your venture shareholder
is both a representative of all the shareholders -- they have a
fiduciary responsibility to do that -- but they also represent their
shareholders. I'm feeling a little protective of the poor
venture capitalist these days, but they may feel like, “Well,
gee, they have this liquidation preference. Is that fair?” You
have to recognize that if you cut a deal, that is the deal you
have, and you have to work with it. Politics can't overcome when
you have them by the contract.
The third terrible thing is this: I recommend that you
keep the “ugly sisters” out of the board meeting. I often
call them the ugly sisters in the investment business, but
they're the ugly sisters of business in general. Those are the
three sisters of woulduh, shoulduh, and coulduh. It's, “You
shoulduh done this. We coulduh done that.” The board has to be
focused on what you do next. If you have the wrong CEO,
you have to make a change. If you have the wrong strategy, you
have to make a change, but you can't focus all of your energy on
woulduh, shoulduh, coulduh. Your whole board process ought to be
on what is next.
How do you attract good board advisors? I think the
number one thing is that you need to know what you want. You
can't just say, “Well, he made a good comment, so I like
him,” or “She's smart.” You have to say, “What I need is
somebody who can help me with the audit committee. What I need
is somebody who is really great at strategy.” It is not as if
you want them to come in and do a project for a month. This is
four to eight years worth of touching that person's talent and
having them reflect on the issues in your business. You need to
know what that is, whether you're looking for technology or
business expertise. When Raul described his board-building, you
notice that he talked about the kinds of expertise he could tap
in each case.
The second thing to attract board members is that you
need an interesting company, one that is changing the world,
bringing new technology to bear, or growing in an unusual
segment. Also, if you bring someone in, they're going to do it
because they expect you to listen to their advice. If you want
them for window decoration, they're not going to be very
effective and they're not going to be very happy. If they do
this, people are looking for an interesting role, for a way to
give back in an interesting way. And they're looking for some
kind of incentives. The incentives are very difficult, but I
would guess that you give a board member something between a
quarter and three-eighths of a percent of the company for their
lifetime role, that is, their four or five year role. That is
for an early stage company.
That is the end of my set of bullets. Back to you.
the audience: q&a
Shames: We're going to start by taking a
couple of questions from the email, then we'll open it up to the
audience. I want to start by talking about a board of advisors.
Everyone talked about boards in general, but mostly related to
board of directors. For a lot of companies, there is the issue
of whether or not they should have a board of advisors. Why
would you have a separate board of advisors, and, if so, who is
on that board?
Fernandez: We put together a board of
advisors later in our life cycle. I think it's useful for a
couple of reasons. First, if you're in a business where you've
got a lot of repeat business and customers that have the
flexibility, compensation issue aside, a board of advisors is a
great structure to bring in individuals who are large buyers. We
had representatives from General Motors, General Electric, AOL,
many of our large partners over the year. It was useful in that
it gave us a structured feedback loop with those individuals. It
was diverse. They tended to be operating heads of a particular
business unit, mostly eBusiness initiatives across a particular
division or across a whole company. One of the things they got
value out of was coming together with peers, and, in some cases,
competitors, either direct or indirect competitors. Those who
could accept were allowed to get options and some level of
meeting compensation, as well as expenses. I think that boards
of advisors are good to give you feedback, if they're
structured, and, at least in our case, we used it 90% from a
client base standpoint.
I think you have to be careful that they don't become honorific.
You've got to manage the process. If you don't manage it, it's a
little bit like kissing frogs. Hopefully, you are getting
something for the cost, but it could easily get out of control,
and, in a sense, be a second class citizen below the board
Raul, you mentioned that you picked a board of advisors later on
in your cycle. Was there any reason why you didn't pick one
We were just focused on the board of directors and on trying to
get the most out of it. If you have a small management team,
you'll find that there are only so many sets of outside advisors
that you can concentrate on to get the type of value Art was
talking about. It all depends on whether you have a structure
within your company to take advantage of it.
Art, what do you see when you get involved at that early stage?
I think Bruce and Raul are right. If you don't have a board of
directors and you're experimenting, maybe a board of advisors is
sort of a half step. Most entrepreneurial companies can't afford
the bandwidth to do both. The board of directors has a clear
mission, and people understand how to deal with that. Boards of
advisors are typically experiments about technology, customer
access, etc. They don't usually have the same duration. That is
partly because you don't have the time to deal with it. I'm
always a little cool on boards of advisors because I've never
seen them last; whereas, boards of directors endure. They have a
role, particularly with new technologies, which is when they can
What do you typically compensate a board of advisors for their
role? How did you do it at Proxicom?
I think the number of shares was somewhere around 10,000 options
and some token meeting fee.
One thing that none of us has talked about that is very
important in attracting your board is the appropriate amount of
insurance. It's a very risky proposition to be on a board, and
those people that commit are not only committing their time, in
some cases they are risking their personal wealth if you don't
have the proper amount of protection. A high level of Directors
and Officers (D&O) insurance, especially in the post-Enron
days, is going to be absolutely key to getting anybody of any
I agree with that. Insurance is really important.
From my perspective, we've seen a lot of companies that think
about board of advisors, but I haven't seen that many that have
properly executed. Once you raise professional money and get a
real board of directors, you get to the issue of what is the
role of the board of advisors? You don't want to have a conflict
between what you're hearing from the advisors and the directors.
What I typically see is that the board of advisors kind of fades
out as the board of directors takes over. The goal would be to
focus on the board of directors as early as possible, but
especially when you start to get interested parties who have
money in your company.
I want to pick up on D&O insurance, which we have
several questions on. Ben Martin went to a lawyer and someone
from the insurance industry to give a description of what it is.
The following explanation comes from Andrew Pagalis, who is a
lawyer at Armfield, Harrison and Thomas. “D&O insurance is
Directors and Officers insurance. Directors and officers are
exposed to personal liability in their capacity as “Ds” and
“Os.” Types of claims have varied widely and are brought by
shareholders, employees, customers, competitors, vendors, and
others. Within the insurance industry they use the term
"management liability" to refer to these types of
exposures, and there are three main forms of management
liability insurance coverage which may be procured individually,
or combined into one form. Those are: directors and officers
liability insurance, employment practices liability insurance,
and fiduciary liability insurance.”
That is a very important facet. Any board of director
would expect a company to have it in place. We typically advise
our clients at a very early stage to start talking to insurance
brokers to figure out what makes sense.
I want to turn it over now to talk a little bit more
about compensation. I think everyone here mentioned it, Art
especially. Exactly what kind of percentages would you give in
equity? What about cash compensation for boards? Do small
company boards of directors get cash, or is it typically just in
the form of equity?
I'd say typically it’s not cash because cash is usually their
scarce commodity. How small is small? Once they get to be
public, there is typically a cash component.
What about paying for expenses, such as coming to meetings?
Always pay expenses.
Even where cash is a practice, there is a trend towards
incentive-based compensation for directors that aligns the
directors' interest with the shareholders. For example, you'll
see a decrease in such emoluments as pensions for directors
because that tends to be potentially contrary to the interests
of shareholders. There is much more of a trend towards alignment
In larger companies, even in smaller companies for that matter,
although the numbers are lower, there tends to be some level of
retainer, some level of per meeting fee, then some level for
chairmanship of a committee, which can see some nominal
increase. As Bruce said, the compensation committee is a good
one to be on. I'm on the compensation committee for Liz
Claiborne, so everybody loves me there, but they pay me an extra
thousand dollars to be on it. You're not there to make money on
the fees; you're there to add value and get value.
One of the things we haven't talked about is the value
that we have gotten from being on these diverse boards. You get
to interact with people who have very, very different
backgrounds. The retail business is very different from the
business that I'm in, and I've gotten a tremendous amount of
value in the last couple of years since I've been on that board,
such as understanding what the real value chain is for the
clothes that you and I wear every day and what it takes to put
that on our back from a manufacturing and delivery
Back to the fees, there are publicly available benchmarks
that can tell you that 60% of all firms pay such-and-such amount
of money. If you're looking for specific direction, that
information is available.
That information is available on an industry basis, on a company
size basis, and you can slice and dice it. There are all kinds
of information out there, and you can get most of it off the
Let me ask a question. Art, you mentioned a quarter to three
eighths of a percent as an average compensation. What is the
expectation, in dollars, that a board member should have over a
four- or five-year period of time?
I tell CEOs that if they are attracting the right person, we'd
like to see him make $500K to $1 million over the course of the
term for a successful company.
That is the range that I've heard as well. If you do well, if
they do well, if the market does well, over a period of time
they can walk away with that range of gain.
Questions are pouring in. Should a startup company have an audit
committee as does a public corporation? If not, who performs
Let's go in reverse order. If there isn't an audit committee,
then the board is the audit committee. In fact, even with an
audit committee, the board has the responsibility to deal with
the auditors and to resolve any issues related to audit
regulations and the financial reporting requirements. I
generally advise companies that the best way to eventually
become a public company is to start acting like one from day
one, if that is your expectation. You want to start getting in
the habit of having an auditor, having an audit, and for the
board to learn how to do all those things way before the point
that they actually go public. That way they're not learning when
it becomes critical and when they become the target of lawyers.
Does a VC prefer an already existing board of directors or board
I'd say that they’re indifferent. Post-investment, you want to
have the kind of board that you think the company should have,
which is balanced: the CEO, the venture guys, and independent
people. To the extent that the existing board obstructs that,
it's a negative. To the extent that it accommodates and helps
fulfill it more quickly, it's a positive.
Bruce, a follow-up to your comment on retirement age. Has anyone
used a term limit for a board?
There are terms with respect to how long you get elected,
Sometimes it's annually, sometimes it's for a three year period,
whatever. I don't know of any company that has specifically said
you can serve two terms, then you must retire, but there are
mandatory retirement ages that can vary anywhere from 62 to 65
to 70 to 72, and, in extreme cases, maybe 75. As I said before,
in the absence of a truly compelling reason, it's hard to get
somebody off the board after you've put them on. I'm not saying
it's employment for life, but, from a practical point of view,
it's just a difficult thing to accomplish.
Just to add to that, I think that the idea of terms, like a
three-year term staggered through the board, is a very good way
to force the process of thinking about whether that board member
is right or not. While it may not be the absolute best way, the
fact is the board and the management have to put forward the
slate for reelection, and that gives you a perfect opportunity
to reconsider without a lot of broken glass.
I think that the key is to set the expectation up front. “I
want you to serve for one term, then, as we evolve, we'll
That’s why having a formal evaluation process in place is
good. You just don't want to say that one person is not doing a
good job and all of a sudden try to find a way to get that
person off the board. If there is a process that repeats itself
every year for the directors who are standing for reelection, as
an example, then you're going to have a chance to have somebody
not stand for reelection. If there is a euphemism for kicking
them off the board, I suppose that would be it.
There are companies that specialize just in facilitating board
That was a great segue, because that was the next question I was
going to ask. How do you evaluate a board. Do you go out and
hire an outside third party? Do you typically give formal
reviews to your board members?
Mr. Crockett: In
a couple of cases, I've been on a board where they didn't have a
process, so we decided to put one in. The first step was to come
up with a process to evaluate the effectiveness of the whole
board. Once that was established and it became routine, we began
the next step, which I think is a logical one, to do evaluations
of individual directors. That is not as easy. As Raul said, if
you had set the expectations from the very beginning, it would
be a lot easier. If you have a board where it's been business as
usual, then it's a little more difficult.
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