Making that Critical Hire

While statistics vary, most human resource professionals would agree that nearly half of all new hires will fail within 18 months of being hired. Of those that do fail, most will fall short of expectations because they lack self awareness, awareness of others, self management and/or interpersonal skills. Using the current vernacular, they will fail because they lack emotional intelligence: EI or EQ.

The cost of a failed hire, measured in dollars, is easily well into the thousands and that includes none of the opportunity cost associated with an employee performing at a substandard level and adversely affecting employee morale, customer relations and/or company programs. Not only is the problem widespread, it is costly.

So what’s to be done? Clearly, no sure-fire recruiting method exists but, as business leaders, shame on us if we don’t strive to improve results. Here’s a suggested approach.

For any truly important position beyond entry-level, the hiring manager and his/her team should identify how the new employee will add value to the organization. What’s more, the team should rank the importance of this role within the department and within the organization, noting that one’s place on the organizational chart may or may not prove indicative. Consider the sales representative who covers the company’s most critical account or the project manager responsible for bringing a game-changing product to market on schedule and on budget. Titles often mislead.

Having determined the importance of a position in terms of the value it adds, the team should turn its attention to the critical performance indicators and, of course, the job description. What must a new hire bring to the table in terms of technical skills and, perhaps more importantly, soft skills… and since the perfect candidate always eludes us, the team should force-rank the needed skills.

The hiring manager with the help of his team must then turn his/her attention to the hiring process and here’s where companies make countless mistakes. Rather than parade candidates through the office and engage them in a series of perfunctory interviews masquerading as due diligence, why not put together a formal, one-day assessment program that would include all top candidates, each of whom would engage in:

  1. Individual, one-on-one interviews where the interviewers pose questions from a well vetted list;
  2. A case study, introducing a challenging, hypothetical, but realistic, ethical problem and requiring a solution by the day’s end;
  3. A writing sample, completed on site, about a personal passion or success story that has relevance to the open position;
  4. Individual presentations highlighting the candidate’s greatest professional achievement and summarizing his/her qualifications for the job; and
  5. A social outing, e.g., lunch, cocktails and/or dinner where the candidates interact with the hiring team and one another.

Such a program will enable the hiring team to develop a more holistic view of each candidate and to compare the candidates to one another. For example, how did each candidate handle the ethical dilemma presented? What did the team learn about each candidate’s communication skills? Who handled the social setting most effectively? Who was most engaging? Who appeared most genuine?

Putting together a daylong assessment requires the team to develop a robust list of interview questions, a challenging and relevant ethical issue with no clear solution and a schedule free of any conflicts for the assessment team members. Team members must also allocate time in advance to review resumes, LinkedIn pages, social media, etc. and develop their own strategy for questioning.

Done properly, an assessment day will enable the hiring manager/team to sharpen their focus and more effectively evaluate each candidate vis-à-vis the others. Ideally, at the end of the day or evening, the team will reconvene to review the day’s activities, discuss the candidates and determine who, among them, represents the best fit for the open position, the team and the company.

Of course, background and reference checks remain important and here, too, the hiring team should come together and, using information gleaned from the assessment, jointly develop questions for candidate references. This writer believes that the hiring manager should personally conduct the reference checks rather than delegating the task to one for whom the hiring decision has less importance.

Clearly, there is no definitive calculus for hiring professionals but the above approach has proven effective and will doubtless continue to improve new-hire decision-making. For starters, any candidate getting the nod at the end of the day will have demonstrated his/her emotional intelligence and, as suggested above, that’s more than half the battle.

Succession Planning

The U.S. Bureau of the Census reports that family-owned and family-controlled companies represent roughly 90% of all U.S. business enterprises. Collectively, these businesses generate 50% of the U.S. Gross National Product and employ nearly two out of every three Americans. In short, family-owned businesses are the backbone of the U.S. economy.

Despite their importance to the general welfare of the country, research shows that two out of three family enterprises will fail to successfully transition from first to second generation ownership. Of those that do succeed, the odds of surviving the second to third generation transition are but 50-50. Why?

A good number of failures result from a lack of leadership. Too frequently, the founder or majority owner steps aside and finds that he/she has failed to develop the necessary bench strength or wrongly assumed another family member would rise to the occasion. Consider Wang Laboratories, the company that pioneered electronic calculators, minicomputers and office automation. Under founder An Wang’s leadership, company revenues grew to more than $3 billion and shareholders had a field day. Then, in 1986, An Wang installed his 36-year-old son, Fred Wang, as president of the company. Fred struggled to lead the company and, for many reasons, it floundered. In 1989, An Wang removed his son and hired professional management but it was too late. The company filed for bankruptcy protection in 1992.

In contrast, Forrest Mars Senior, largely credited with transforming M&M Mars into a global consumer juggernaut, handed the company keys to his sons Forrest Junior and John. Having been determined “not to raise playboys,” he first forced his two sons to learn about business the old-fashioned way, by succeeding and failing on their own, which they did. Then, in 1973, Forrest Senior retired and walked away, having reportedly said to John and Forrest Junior: “Here’s the end of the pool and I gotta kick you in it. Goodbye. I taught you how to swim.” Today, the company has revenues of more than $30 billion and stands as one of the largest and most successful privately held companies in the world. It is managed by a non-family member.

Family businesses seeking to survive a generational transition need to develop a succession plan that includes:

  1. A discussion of the company’s strategy to either grow, harvest or divest of its market position;
  2. The critical success factors for strategy implementation;
  3. An objective assessment the company’s resources and value;
  4. A personnel plan that (i) highlights the skills needed for all key roles, and (ii) identifies the post-transition roles of the various family members; and
  5. A timeline with milestones to smooth the generational handoff.

Development of a succession plans should involve all family stakeholders as well as the company’s legal counsel, accountants, insurance professionals and business consultants. Good process requires objectivity and external resources afford needed perspective – business owners might be well served to think of third-party fees as investments in the future of their companies’ business, and not as expenses.

For families planning to sell their business, an objective assessment of value will prove pivotal. Here, too, third parties can help keep opinions and emotions at bay while examining the company’s financial health, market position, business opportunity as well as competitive threats and risk. And since a company is ultimately worth only what someone will pay to buy it, the family should identify in advance what it will accept and when it will walk-away.

Most importantly, family-owned businesses should plan for downstream events such as owner/founder retirement or, worse, disability or death. The planning and decision-making process should rely on skills, knowledge of the business and judgment, not lineage, birth date or the family pecking order. Family-owned businesses should plan for the future in the cold light of day.

More Thoughts on Business Valuation

People often ask about the meaning of two terms they hear bandied about: pre-money valuation and post-money valuation. For both investors and business owners, the distinction proves critical.

A pre-money valuation represents the value of a company or asset before new money is invested whereas a post-money valuation represents the value after the receipt of new money. For example, if an entrepreneur and prospective investor agree that the value of a new business is $1 million before receiving the investor’s $250,000 in added capital, then the $1 million stands as a pre-money valuation. If, on the other hand, the entrepreneur and investor were to agree that after receipt of the investor’s $250,000, the value would be $1 million, then the $1 million represents a post-money valuation. Please reference the table below.

While the 5% difference in equity ownership may not seem overly significant at this early stage, it may well prove both critical and highly valuable during subsequent financing rounds or at the time of a company sale or public offering.

Thoughts on Business Valuation

Effectively valuing a business, whether a buyer or seller, involves multiple steps and requires both art and science. Getting it wrong results in widely disparate estimates of value, irrational analyses of risk and/or a cost of capital not reasonably related to the underlying value of the business. Getting it wrong means buyer and seller can’t come together.

One method of valuing a company, asset valuation, subtracts the company’s liabilities from the company’s assets. The resulting difference represents a most conservative view of the overall value in that it fails to incorporate any downstream earnings. This approach becomes particularly important when evaluating a liquidation strategy, a capital-intensive business or a worst-case scenario.

Another approach to valuation, market or multiples valuation, relies on available market information such as price-earnings ratios. This type of valuation assumes that the company being valued operates in a known market where buyers and sellers already exist. For example, if valuing a building products company where one can easily obtain industry price-earnings (PE) data, one might apply an average industry PE multiple to the company’s earnings to estimate a company value in the same way that one might apply that same multiple to per-share earnings to estimate the per-share market price of a company’s stock.

Ideally, one finds a similar company in the same industry that has recently sold – loosely called a “twin” – for comparison much as one would review real-estate comparables when buying or selling a house. Revenue and/or earnings multiples for this twin would of course prove highly relevant to the valuation process. Companies in new or emerging “Blue Ocean” markets, however, seldom find twins or meaningful reference data and must therefore rely on other methods.

In addition to earnings multiples, business owners often become enthralled with dreamy valuations based on revenue multiples which reveal nothing about the real value of the business. For the most part, such valuations prove meaningless – fool’s gold in this writer’s opinion.

A free-cash-flow valuation, in contrast with the above, begins with the company’s projected annual earnings before interest, taxes, deprecation and amortization, i.e., before EBITDA, and adds the net changes in assets and working capital needed to support the projected year-over-year growth. This process yields an estimate of the nominal free cash flows that the company will generate over time. These, in turn, are discounted and summed to create a present-value estimate – a preliminary free-cash-flow valuation – of the company. At this point in the valuation process, one adjusts the present-value estimate to reflect additional value for the acquiring company, e.g., increased market reach, new customers for its products, intellectual property and, in general, any synergies likely to result from the acquisition. Similarly, one would incorporate downward adjustments for business risk associated with expiring contracts and patents, loss of key personnel, customer defections or changes in the competitive landscape.

Unlike a market or multiples approach based on revenues and/or earnings, EBITDA more clearly reveals the cash generated by operations by removing non-cash expenses as well as those expenses subject to wide variations such as:

  • Interest expense which will vary for the acquiring company since it will have its own financing and cost of capital;
  • Taxes which may also vary widely based on past financial performance and previous acquisitions;
  • Depreciation, a non-cash expense that may reflect an overly conservative or aggressive attitude about the useful life and/or residual value of a tangible asset; and
  • Amortization, also a non-cash expense that may similarly reflect a conservative or aggressive attitude about the useful life of an intangible asset (intangible assets typically have no residual value).

Importantly, valuations based on EBITDA must also concern themselves with the quality of earnings or, put differently, the cowboy antics of rogue accountants. For example, EBITDA may be exaggerated if the company has: (i) delayed writing off obsolete inventories or bad debt; (ii) been overly aggressive in recognizing revenue; and/or (iii) minimized reserves. In other words, handle EBITDA with care.

The above paragraphs notwithstanding, in the end, a company’s value is precisely the amount a buyer will pay for it.   Hence, the more buyer and seller reason their valuation estimates, the more likely they are to come together and consummate a transaction.

Due Diligence – Critical Considerations

Acquisitions create excitement. Executives considering the purchase of another company invest long hours thinking about the value of the target company and how it would strategically and financially fit with their own. Across the table, executives considering the sale of company also think about value but they’re often more concerned with cashing out than with future benefits.

Assuming both buyer and seller appear motivated to conclude a transaction, buyers will perform due diligence, devoting time and energy to understanding asset values, free cash flows, markets, key personnel and whatever sources of value they identify. They’ll look for synergies, they’ll value the acquisition and, if all goes well, negotiate a purchase price acceptable to both buyer and seller, and consummate the deal.

Research suggests that only about 50% of all mergers and acquisitions produce the expected benefits so, when considering an acquisition, how can an acquiring company perform more meaningful due diligence? To my mind, buyers must analyze and vet:

  1. The opportunity;
  2. The people;
  3. What can go wrong; and
  4. The deal.

Vetting the opportunity means analyzing how both companies create shareholder value and estimating the economic impact of the acquisition, i.e., the value of the new entity vis-à-vis the pre-transaction value of the acquiring company. Will the new entity have greater access to markets, greater capacity, sustainable competitive advantage, new sources of raw materials and products, enhanced skills and know-how? The acquirer’s valuation of the investment will reflect these and other sources of value, requirements for additional downstream investments and the time required to realize the benefits. Offsetting the benefits, of course, is the risk of something going wrong.

The better the acquiring company understands the target company’s business and its ability to create value, the greater the likelihood of realizing the anticipated benefits and creating appreciable wealth for the acquiring company’s shareholders.

An in-depth understanding of the target company’s business also enables sound decision making regarding employees. Will the new entity need to retain a full cohort of employees from both the acquiring and target companies? At a minimum, the acquiring company must identify, retain and keep motivated those individuals employed by the target company who have specific skills, relationships and/or knowledge. Whether you follow Richard Branson, Jim Collins, Peter Drucker or someone else, people make a company and people are, indeed, a company’s greatest asset.

It’s not enough to understand the potential of an acquisition. For the half of mergers and acquisitions that failed to deliver the expected benefits, something went wrong. What? Could it have been avoided? Perhaps, if the acquiring company’s due diligence had included a rigorous debate about potential downstream problems.Acquiring companies must consider what can go wrong and fail to do so at their peril. What assumptions about the target-company’s business, culture and systems underpin the valuation? How do these assumptions allow for market downturns, new competitors or currency fluctuations? Are the assumptions realistic or might they call to mind the following “Dilbert” strip by Scott Adams.Acquiring companies cannot eliminate risk but they can mitigate it. Performing sensitivity analyses and assigning probabilities to potential outcomes will lead to a more robust estimation of future value. Moreover, this effort will help forestall or altogether avoid future problems. At the very least, it will lead to a better understanding of the challenges of forming the new company.

The deal, last on the list, establishes the amount and timing of the acquiring company’s investment. Ideally, it incorporates all potential benefits and known risks, and reflects a shared, fact-based valuation of the target company that appeals to both buyer and seller. However, before consummating the deal, both parties should once more consider the long-term consequences of no-deal. This helps avoid a push for closure because of the time invested to date or, perhaps, the undue influence of commissioned third parties who stand to profit from the deal. At the risk of sounding trite, both companies’ interests are best served when buyer and seller perceive the transaction as win-win.

… and with the documents signed, the real work begins.

Recruiting A Nonprofit Board

“Give, get or get off” was how Warren McFarlan, Harvard Business School Professor Emeritus once summed up the role of the nonprofit board member.  Like for-profit board members, the nonprofit board concerns itself with good governance but, while other similarities exist, a nonprofit board is a different kettle of fish. So, beyond interpersonal and functional skills, what should a nonprofit look for when selecting board members?

In the for-profit world, shareholders elect a board of directors to protect shareholder interests. Board members work collectively to ensure sound governance, the availability of financial resources and reasoned execution of corporate plans, programs and policies.

In contrast, a nonprofit board serves not at the pleasure of shareholders – there are none – but represents instead the executive team, major donors, those served by the organization and/or the community at large. Similar to the for-profit board, the nonprofit board assumes responsibility for governing the nonprofit organization but their focus is on the mission of the nonprofit rather than the wealth of the shareholders.

The nonprofit board of directors will typically spend more time pursuing social goals, raising community awareness and raising funds. Its functions include:

  • Reviewing and approving mission-oriented objectives and policies;
  • Selecting and appointing the organization’s chief executive;
  • Marshaling the financial and volunteer resources needed;
  • Safeguarding the integrity of the mission and credibility of the organization;
  • Directly assisting in the achievement of organization objectives.

Given this last charge, one can easily see the benefit of a much larger board of directors, nearly all of whom would be outside directors.

As with for-profit boards, bylaws set forth board-member election procedures, operating rules and meeting frequency.   But, unlike for-profit boards, directors often receive little or no compensation and engage because they believe in the nonprofit’s mission, a belief that encourages them to donate both time and treasure to the cause.  So what does does a nonprofit organization look for when selecting and recruiting unremunerated board members? The answer is twofold: (i) passion and (ii) a philanthropic mindset.

Those passionate about the nonprofit’s mission will more likely contribute both time and treasure, enthusiastically communicate the cause and enlist others in support of the organization. In other words, a passionate board member adopts not only a positive attitude about the organization but, more importantly, a positive behavior that enables fulfillment of the mission – he or she becomes mission critical. As the novelist, E. M. Forster opined, “One person with passion is better than 40 people merely interested.”

A philanthropic mindset presupposes not only the willingness to give but the ability as well. The Merriam-Webster dictionary defines “philanthropist” as one who makes an active effort to promote human welfare.  Perhaps William Penn’s words most effectively describe the mindset of the philanthropist: “I expect to pass through life but once. If therefore, there be any kindness I can show or any good thing I can do to any fellow being, let me do it now, and not defer it, as I shall not pass this way again.”

Clearly, different degrees of passion and different stages of mindset development exist. Selecting nonprofit board members thus remains a function of judgment with little calculus. The following chart, however, attempts to provide a high-level framework for assessing the likely level of engagement of new board members.


Those men and women represented by the shaded area of the chart form the lifeblood of many nonprofits and, as a result, they receive countless requests for both their time and treasure. Because of their philanthropic interests, these individuals may find the nonprofit(s) that align with their philanthropic interests before the nonprofit(s) find them.   For nonprofits, they are the difference makers.

Those in the non-shaded area will prove helpful as well but will often require extra management time to excite, motivate or specifically engage. When recruiting, the nonprofit executive should take care to understand the interests of prospective board members and, potentially, the opportunity cost of engagement.

Nonprofit organizations will struggle to select the right board members, as will their for-profit counterparts; the search will remain continual. Jim Collins’ quote “Get the right people on the bus, the wrong people off the bus, and the right people in the right seats” is oft quoted for a reason.

China Trademarks and the Madrid Protocol (2011)

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Counterfeit Pool Cues: Let Buyer & Seller Beware (2011)

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China – A Country in Transition (Observations from 1976 & 2007)

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Is A Satisfied Customer Always A Loyal Customer (2003)

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