Project: Liftoff

A lot of experts will tell you, as soon as you start up, “Incorporate!” Well, that’s not the right advice for many start-ups. You need to look at the issue more closely to know if forming an S Corporation, C Corporation, or LLC is right for you, or if you should continue as a Sole Proprietor or General Partner. Often, the main thing you’re told you’ll get from incorporation is “protection” – you’ll be safe from lawsuits. Well, that’s true, but that’s not the whole story. First of all, in many states, incorporating will subject you to a minimum tax; in California, where I work, it’s $800/year, no matter how little you make. That can be a lot more than many small businesspeople just starting up would pay on taxes if they remained Sole Proprietors or General Partners. Then there’s that asset protection. Incorporating means that your own personal assets will be safe from lawsuits – but not those of your business; others can still sue your business and put it out of business. And if you’re worried about being sued for loans or other credit that you can’t pay back, well, if you’re a start-up then you probably had to guarantee them personally anyway, so they’ll go after you, corporation or not. Worst of all, if they go after your corporation and drive it into bankruptcy, then you have no source of income and you’ve lost everything you worked for. No, incorporation alone isn’t the solution. The only way you can protect what you’ve built – not just your own assets, but your livelihood – is to carry proper insurance. For many kinds of business, insurance is relatively inexpensive – maybe just twice that minimum tax – and can give you a cushion against a wide variety of problems and mistakes. So, for many small businesses, it’s not liability that makes them incorporate – it’s either:

• Credit, because a lender or vendor will only extend credit to business entities, or
• Sales, because a customer will only deal with business entities

Before you incorporate, while you’re still thinking of starting your business, talk to potential vendors and customers and see whether or not they will work with a Sole Proprietor or General Partnership, or if you need that incorporation. (For instance, many large companies will only deal with vendors that are incorporated.) And then talk to an insurance agent and a lawyer. They’ll tell you if you can protect yourself against the risks you have with insurance, and if you need the additional protection that incorporation can give you. But do the math first! Blindly incorporating every single start-up is a prescription to pay the most taxes – without getting real protection.

The big news for business this week is obviously healthcare reform. What it means obviously differs between various businesses; but, for the true start-up, the bill is clearly a very good thing. Healthcare reform will help startups in two specific ways: 1. Cash Flow 2. Enabling the start Cash Flow Startups are unique beasts – their problems virtually always come down to two factors, cash flow and time. While those two are substitutable for most businesses, they aren’t at startups. Anything a startup can do to minimize costs and take them out of the company is a good thing Healthcare reform will help startups improve cash flow by ensuring that the individual insurance market is affordable, or at least predictable, enough for founders to carry insurance on their own dime, rather than buying a corporate plan from day one. Enabling the Start As much as this blog will always be about “cash is king,” the freedom to start a business is by far the most important thing healthcare reform will bring to startups. Right now, that first step out of a “real job” is a doozy – losing your healthcare is a big part of that. These days, I see a lot of laid-off clients who have COBRA coverage, but, in other economic times, we want to enable individuals to choose when to start a company. Ensuring access to insurance could potentially allow many people who are worried about starting a business to get out there and do it. Economists have found a lot of evidence that labor market mobility is important to a healthy economy. Startups create jobs, and help American industry to evolve and respond to market changes. We need to make it as easy as is reasonable for people to move from a less-than-ideal job to starting their dream company. Healthcare reform does that. In the end, that’s good for all of us.

You’ve probably heard about the exit strategy. Sure, a few years ago, only professional investors asked about them; these days, everybody’s pitching the exit strategy. The good news is that most of my clients come to me and ask about their exit strategy. The bad news is that my clients don’t need an exit strategy: what they, and all entrepreneurs, need is a life strategy. The problem is that having an exit strategy, per se, doesn’t directly help anyone. Well, it may help your investors, if you have investors, and if you picked an exit strategy specifically for them. But other than that, an exit strategy is only a means to an end. The end is: getting what you want. That’s the beauty of being an entrepreneur, really – you are finally the one in charge of picking how everything gets to end up for you. Take advantage of that mighty power. My friend Freddy reminded me of a great blog entry he wrote last year: “Why Exit Strategies are Bad for Business.” His basic message is that you need to be committed to your start-up, not leave it. Well, that’s true for some people, and not true for others. Don’t build your company around your exit strategy: build your company and your exit around your life strategy. Let’s take an example: do you want a guaranteed job for the rest of your life? Then you need what the pros call  a “walking harvest” – a plan that has you drawing a salary and perhaps dividends from a company that operates for years – rather than focusing on getting a single chunk of money. Do your investors want something different? Don’t change your whole plan to make them happy, realize that your exit strategy differs from theirs. If you can’t put yourself in a position to stay while they get their exit, then you need to accept that you need a premium on your exit to make ending up with no job worthwhile. Want to get out in a few years to spend more time with your family? Plan now to put yourself in a position to either sell your company or have it run without you – both are equally acceptable exits from the point of view of your life strategy. How do you develop your life strategy? Well, that’s the big challenge, but it’s worth confronting that from the launch of your business. After all, you shouldn’t just have the exit you want; you should have the work you want, too, every day. So take a step back and take the time to articulate your preferences, beliefs, and goals, because you may need to think bigger, strategy-wise: you may need to think about your whole life.

I was at a very interesting panel discussion on socially-responsible businesses on Saturday, and the question of whether or not a socially-responsible business should be expected to make as much of a profit as profit-focused businesses came up. This is a common topic, and there are a lot of people out there who will argue forcefully that investors should accept it when socially-responsible businesses make fewer profits than other businesses in the same industries. These people are completely wrong: we must demand socially-responsible businesses reach the same level of profit as any other company. Many years ago, I did PR for non-profits for a little while. One thing I learned is that the pool of money available to non-profits is pretty static in size: people give about how much they give, and you can’t really get them to give more. That leaves non-profits all competing for their own chunk of a fairly small pie, and it means that new entries in the non-profit space are stuck trying to enter that ecosystem. That’s a tough challenge for any new non-profit venture. In contrast, in the for-profit arena an innovative new entrant can find its own market, and many do create something new. Starbucks launched when few people really wanted a coffee shop that served high-end products, but now hundreds of millions of people around the world spend money there, every day, money that probably didn’t go to incumbent coffee shops. Imagine how much more effect a new socially-responsible for-profit venture can have, working in such a wide-open market, than a new non-profit with the same mission. Of course, the question follows: shouldn’t the socially-responsible for-profit just make less total profit, and devote some of its revenues to its mission? That gets a big “yes, but…” Yes, the socially-responsible for-profit should devote some of its revenues to its mission. No, that shouldn’t decrease profit over time – it should _increase_ profit over time. The way to maximize profit for a socially-responsible venture is to bake that profit into the very concept of the products and services you offer. To return to Starbucks, one of Howard Schultz’s social goals for his company was to provide health insurance to all employees. Starbucks didn’t offer to put a few percent of the price of a fifty-cent cup of weak, burnt coffee, as one found in those days, towards a non-profit that provided healthcare; they gave their employees healthcare, they priced their products to be able to afford that, and they delivered sufficient value to their customers to justify that price. The whole package was innovative – and they grabbed an enormous market that never existed before. Yvon Chouinard made the environment a fundamental piece of Patagonia’s products, and that only made them more able to command a premium price for the target market. Today, Patagonia is an innovator and a leader in the outdoor clothing market. So don’t add on your mission – make it a fundamental part of your product or service. Make it a part of your identity and your value proposition. Then your mission will drive you to more profit, more success, and more contribution to society, rather than less, less, and less.

There’s a series of questions I ask every new client. A lot of it is background stuff, like “what are your goals” and “do you have specific financial or personal challenges at this time,” so that I can make sure that we’re on track to create something meaningful for their lives. But some of it is about the little things, the things you have to do to get and keep your business running. And there’s one box that, so far, not a single client has checked. That box is “do you have your city business license?” Almost nobody has one – and that can cost you. The City of Los Angeles sweeps business rolls every year and seeks out businesses that don’t have licenses, then collects licensing fees and fines. Some cities – Torrance, for instance – set a cap on the number of years of back fees they can go after; others may not. Many businesses, particularly those in the food industry, also need to have industry-specific permits. Even if you’re renting a certified commercial kitchen, your state may require a staff member certified in food handling to be on-site while you operate. Specialized packaging methods may require specialized permits as well. A good attorney can help you take care of permitting during your start-up phase. If the lawyer who is doing your business organization doesn’t know anything about permits, ask them for a referral to an industry specialist; there’s probably a lawyer in your area who works just with people like you. You can do a lot of the work yourself online, too; a great place to start at is Business.gov’s Permit Me Web site. Just enter your zip and select your industry from a list and they’ll come up with a step-by-step list of permits you may require, taking you from incorporation through business launch.