This is a counterintuitive point, and I think mostly gets glossed over in a lot of high level thinking. For example, if you're reading some generic advice about valuing a small company, it will usually point out that "profit" needs to be expressed net of the owner/manager's salary, the salary a buyer would need to pay someone to be General manager of this business. Economics textbooks do something similar.
This might give you the impression it's normal to hire general managers for businesses. In reality, it's rare that a "small company" (say a turnover of $1m-$10m, for a typical software or services company, or even 10X that) does this.
A clean break between ownership and management is a difficult thing.
Jacques does an admirable job of breaking it down in a way that gets the message across. To go further, I actually think it could be a great topic for an out-of-the-box young economist to take on. Like a modern Ronald Coase's "Theory of the Firm." It's got tentacles in a lot of interesting questions. The unpopularity (these days) of "adult supervision" investor supplied CEOs, for example. The relative obscureness of SMEs as an investment class outside of high risk VC for another.
It would be very unusual for someone to put his/her net worth (say $2m) into a small business unless they can run it. Does an economist-ic explanation exist?
Human capital - the original owner/manager knows infinitely more about the business than the new manager does.
For example: I recently took a class in college where a team of engineers and business students would pick up and run with a venture from the previous semester. My team was producing mechanical agricultural products for rural women in Ghana. I was technically the "Project Manager" but in reality, I had no idea what was going on for the first two months: who were our contacts in Ghana, why should they trust me, how had the design of our products changed over time, who was supplying our raw materials, what was the state of our financials & grant proposals, how about marketing and sales channels, what even is a Cassava?! It was really disorienting and frustrating. Yes, there was documentation [1], but reading something vs. doing something are completely different.
The most valuable members of these teams are always the ones who have stayed on the project for multiple semesters, with the overseeing professor (6 semesters of experience) being simply indispensable. If he had been replaced, the project would've fallen apart immediately.
Of course, this becomes less and less essential as the company gets larger. Replacing the CEO at a Microsoft or an Apple may change high-level decision making, but most of the human capital is stored within the large, diversified, hierarchical employee base.
As for putting your entire net worth into one investment, that's a simple risk/reward profile. If you're going to put all of your monetary assets into one investment vehicle, you're probably going to put all of your other assets (skills, contacts, time) into this investment as well. Capital attracts capital, be it fiscal capital or human capital.
[1] The documentation was actually excellent as each exiting team had sworn to do a great job so that the next team wouldn't have to go through the same frustration that the exiting team had experienced. Wishful thinking.
This is part of the reason why working for a company as part of buying the company exists. In small businesses, it is possible for an interested purchaser to actually work under the existing owner for months or years to receive training and ensure the business will continue to survive. Even founders of lifestyle businesses take a lot of pride in what they've built, so there is a sentimental reason to sell this way too.
This kind of reason seems to exclude selling a business too, though. But small businesses do get sold to people who don't know anything and often succeed.
The 'economist-ic' explanation is 1) diversification 2) agent-principal problem 3) asymmetric information (books are cooked, owner is selling because something is about to hit the fan).
Investors and business brokers deal with them by 1) low prices / earnings multiples, not putting your entire net worth into a small business 2) as OP suggests, you either manage it yourself or somehow have loyal staff with skin in the game 3) earn-outs for original owner who gets paid out over time from earnings after successful transfer.
Because of the risks, small businesses sell cheap relative to earnings, often fail not long after they are sold.
What size company is he talking about -- 5 employees? 15? 50? 500? 5,000? Public companies are certainly run with ownership being different from management.
But if we're talking about a 15-person company, the author says:
"This means that before long there will be a general feeling of resentment, after all if you (and possibly your co-founders, also lying on the beach) are going to receive all or at least a very large chunk of the profits then why do all the hard work?"
That big chunk of profits comes from the fact that you took the initial risk, you worked the endless hours at the beginning, you created the whole thing in the first place. Why on earth should they resent you continuing to take your fair share of the fruits of your previous labor? If they have a problem with that, the problem isn't with you, it's with capitalism in general.
You do need to make sure everyone continues to be appropriately invested in the company, including the new CEO. But the idea that you should either run a company or not own it at all is ludicrous -- taken to its logical conclusion, this means investors shouldn't exist!
Humans don't behave rationally. It is better to take this into account when planning your own actions as otherwise you open yourself up to risk when humans act like humans.
Even in the really small case of taking only 75% of the salary to work only 75% of the hours due to not needing the money and valuing your time more. It can cause problems in the team because they see the result of you working only 75% of the time but they rarely encounter the effects of being paid only 75% of the amount.
So when you are getting paid far more and working far less because of all the initial investment and taking on the initial risks (something employees are likely not able to see and fully appreciate), then there is going to be resentment.
>taken to its logical conclusion, this means investors shouldn't exist!
And there are groups of people (political and not) who have a negative view of investors compared to employees.
Leaving a smallish company where the original owner is sitting on their ass is behaving rationally. Once key players start slacking it's time to start looking for a new job before competition puts you out of yours. At a small company, the owner is usually a key player.
And I don't mean slacking as in "not working 7 days a week". I mean not working, roughly, a normal work week.
How many investors do you know that put all of their savings into a single company run by someone else without wanting to take control of that company?
You raised a good point in bringing up that phrase "fair share." What is the fair share for someone who doesn't do anything? What should someone get for mere possession?
I'm asking not in the present-day legal sense (where the answer is, whatever's fair is whatever you've clawed out for yourself), but in the moral sense of how much should ownership of anything actually be worth if you're not continuing to put any effort into a venture, but are totally passive--a name on paper.
Where does "setting up and creating a thing and then profiting as an absent owner" cross over into rent-seeking?
One usually invest quite some saving in these endeavours. Say 10 years. You have three years of runway before getting resounding success or having to pack. At the end of these three years you have to compare your gains against what you'd have gained saving some more.
If you start your thing, the initial years will be in the red. If it works out in the end, you are looking to gain your saving back, plus the years of missed gains, plus the interest you'd matured having money
When you start grtting enough money to hire someone to maintain the company and start gaining passively you aren't actually passively gaining from the beginning: you are still a lot in the red. So it's moral to me wanting to keep a share of the company earnings, so I'd be able to sustain another venue.
Also it doesn't seem so bad to profit from an idea one had to enter a new market, niche or otherwise. Others are free to build their alternative after all but they didn't, so all the value from the idea is yours until challenged.
Presumably that person who "doesn't do anything" now spent many years working 12+ hours a day, 7 days a week, for zero pay building the business. It would not exist in any form without them.
Gilding the lily a bit there, aren't we? I've worked in half a dozen start-ups, and a few owner-started small businesses before that, and none of them had a founder that lived on zero pay for years (excluding the founder who came from an 'old money' family), and none of them worked 7/12+. Long hours, sure. Work on weekends, sure. Work 12+ hours every day as a normal way of life? Pull the other one.
Just because you can find the occasional person that does this, doesn't mean that they're a typical example.
So, someone spends 12+ hours a day, 7 days a week, for zero pay, for some period of time (say, a year), and for the rest of their life, they receive free money.
Tweak the numbers but that's what you're saying in a nutshell... and that's certainly the way the world works now.
Should it? Do we like the idea of "receive free money" because there is entrepreneurship involved? What if it someone who was born into owning a business? Do we still like the idea as much?
The other side of it is that the entire enterprise would theoretically not exist without that initial effort.
While it may not appear fair under certain ethical frameworks for someone to receive free money, it seems to be that the choice is "everyone gets nothing" versus "someone gets more than others because they created it".
in my experience, this is a red herring. I know very few founders who don't work harder after an acquisition or capital investment than before. Those who are sitting on the beach tend to have sold their interest.
It's not going to be "everyone gets nothing", because most of the employees have other options open to them. But why am I busting my ass, working those long hours, while you're not, and you're still going to get more than me?
But why am I busting my ass, working those long hours, while you're not, and you're still going to get more than me?
Because you're getting paid, presumably. Why does it matter if some hypothetical founder In absentia is making more than you or not? Know your own value and negotiate compensation that seems fair. If you want "free money for laying around" then negotiate a large portion of your own compensation as a percentage of the company's profits (or as stock in a company that offers dividends). Ownership isn't just for the founders.
Anyway, that aside, the truth is, most people in most companies aren't really "busting their ass", at least not all the time. They're coasting, doing just enough to not get fired, and spending plenty of time reading Dilbert, Techcrunch, Hacker News, Facebook, whatever. If people are busting their asses, they probably have what they consider a good reason. Something like:
1. They want a promotion / raise.
2. They are just plain passionate about what they are doing.
3. Their compensation is somehow tied to the performance of the company.
4. They're trying to impress somebody for whatever reason. Maybe so they can go on to start their own company.
I'm getting paid, but so are they. And seeing something like that makes it so that I work just hard enough to not get fired. Not the kind of extra mile stuff that these companies typically complain that they want to see from their employees.
Sure, absolutely. I don't advocate doing any "extra mile" stuff unless you have a damn good reason to. I mean, if you think you're in like to make CEO (or whatever) one day, then by all means, do whatever it takes. Otherwise, my feeling is, conserve as much of your mental/physical/emotional/spiritual/whatever energy as you can, to use on ends that DO matter to you.
Again, how long after that enterprise has existed should a person get to claim free money? I think that phrasing, "may not appear fair," is kind of a weaselly way to say "rent-seeking is ok and let's keep it" (which is, I get it, a common sentiment among people who think they might be the rentiers some day). I don't think it is good for society, certainly not the one I'd like to live in, though it sure is good for the person getting that free money.
(And yes, I know this is largely in the realm of hypotheticals, because it seldom happens that the owner is totally absent...)
If you've ever been paid interest on savings, paid into a pension, invested in the stock market, rented out a possession, or taken advantage of your relatively privileged upbringing as leverage over others you're a 'rent seeker' too. It's a meaningless epithet.
It's quite possible and moral for a business owner to invest money in a business, pay their employees a good wage and keep them happy, and extract profit in return for taking on more of the risk, and having capital in the first place. In fact, that's the way most businesses run, and they often depend on investors who merely provide capital too.
Now if they inherited the money, extorted it, or gained it illegally, perhaps you have a case that the situation is unfair, but the mere fact of exploiting capital in order to make more is not in any way morally dubious.
I don't know of anyone who defines "rent seeking" as broadly as you just have. You're getting at saying that any sort of money-lending with interest is "rent seeking" and that's not what I'm trying to get at either.
And I agree, business owners should be compensated for what they put into a business. Forever, if they don't keep putting something into it? I don't know about that.
You haven't defined it at all, and I think if you try, you'll find it hard to differentiate between the use of capital to start a business and the use of capital for one of the other activities I listed above which bring in income with no effort. All are using existing capital to earn more.
Forever, if they don't keep putting something into it? I don't know about that.
If you accept that banks should pay interest on deposits (forever), or shares should pay dividends (forever), then you accept that owners should receive money forever for an initial investment, just as other holders of capital do for other investments. There's nothing nefarious or unjust about it.
you're creating a straw man with this "forever" business that keeps paying a checked-out owner a huge dividend. you don't like the idea of it because it's impossible.
in reality, over the long term (years), they are either run into the ground, embezzled from, or sold.
management and ownership will always eventually overlap in any sustainable business.
I get the moral argument you're making, but there's a practical side to it, too.
In any capitalist system, the fruits (profits) of an income-generating asset (such as a business) accrue to the owners. Assuming that the idea of private property ownership exists, I can't think of any other coherent place for the profits to go, other than the owner.
Sometimes, a business might be an unexpected hit, taking off and generating revenues beyond the wildest dreams of the founder. Suddenly the company is flush with cash. Now assuming all the employees are fairly compensated, and all the company's other financial needs are met, then beyond a small buffer, what is there to do with the excess cash aside from paying it out as a dividend to the owner?
So I guess my point is that we can make moral hypotheticals all day (about whether it's "right" for the owners of a profitable company to get "free" money "forever" without necessarily "doing anything" further), but I'm not sure what other system we could put in place within a capitalist framework. If a company is treating its employees well, meeting all needs, and still generating an operating surplus, where else would you have that money go, if not to the owners?
Also I think your use of the term "rent-seeking" here is incorrect. A business owner receiving "passive" (or at least "not much active involvement") income from the business they own is kinda the antithesis of rent-seeking.
Rent-seeking behaviour is the attempt to increase your share of the wealth, by means other than generating additional wealth. When you're the one who owns a profitable company, you're the one generating that wealth.
The classic example of rent-seeking is someone installing a chain across a river that happens to run through their land, and then starting to charge people to pass through "their" bit of river. They add no value to the economy in doing this, no product is created nor any service rendered; they are simply extracting rents from river-users.
Another example might be when a company seeks to tilt laws/regulations in its favour (e.g. through lobbying), with the intention of increasing the share of the wealth without the business actually having to generate it. Just like the river, no additional wealth is generated as a result of this action: existing wealth is merely being redistributed (toward the rent-seeker) by government policy.
The key concept in rent-seeking being that wealth (the so-called "rent") is being captured by a party (the rent-seeker) without them generating it.
"Rent-seeking behaviour is the attempt to increase your share of the wealth, by means other than generating additional wealth. When you're the one who owns a profitable company, you're the one generating that wealth."
When you own a company, you and everyone else who shows up that day to work are the ones generating that wealth. Ownership by itself doesn't generate anything. Activity does.
>Assuming that the idea of private property ownership exists, I can't think of any other coherent place for the profits to go, other than the owner.
You are begging the question.
You start out with the assumption that all benefits accrue to the owner and then repeatedly conclude that the owner should receive all benefits (after distributing a "fair share" to everyone else [of which there is curiously still "extra share" available for the owner {who likely didn't contribute direct effort to help achieve the shares}]).
A business is not an "income-generating asset", it's a collection of individuals and policies that cooperate to achieve some end. Business as income-generating asset is a classic rent-seeker fallacy (although some may get away with it).
Removing the ability to create passive income streams removes the incentive to invest time and money. Entrepreneurship can be switched off like a light if the incentives are removed. When Entrepreneurship is extinguished, quality of life for everyone decreases.
People start businesses knowing the odds are long but the rewards are great if they pull it off.
There are those that complain about 'trust fund kids' who are born into wealth. They're a very tiny percentage of population, the wealth doesn't usually last many generations, and 'passing it on' is also a major motivator for many people.
For each douchebag with rich parents there are others who use their financial freedom to work on hard problems.
Charles Darwin was the grandson of Josiah Wedgwood. Wedgwood was one of the first industrial entrepreneurs and developed many business techniques still in use today. Darwin was an original 'trust fund kid' who used his financial freedom to pursue science and write his books, which changed the world for the better. There will be countless modern repetitions of this pattern, and you'd discard this type of benefit of inherited wealth at peril.
Like I said, what happened in the past doesn't matter. All the employees see is someone taking the bulk of the reward, for not doing much at all. Odds are, we had to replace all of their shit code, or they weren't able to write any of it to start with.
I don't see how failure or success changes that question of "is a lifetime of free money for some small value of work acceptable?" -- nor am I even saying "no free money ever".
I'm getting at, where does the passive ownership cross the line into rent-seeking?
Who said it was some "small value of work"??? Starting a company is FUCKING HARD, and the founders put in simply incredible amounts of effort in the early days. I mean, sure, it's different for different companies, but I know I've routinely worked 100+ hours a week for years with no vacation, sacrificed time with friends and family, sacrificed going out, partying, socializing and doing a lot of other things I enjoy, and even (stupidly) sacrificed my health to the point of having a heart-attack and almost dying. So yeah, if my company is ever successful enough to make a continuous profit, you're damn right I feel like I've earned my share of that future profit, even if I do decide to go lie on a beach somewhere and relax. The way I'm looking at it, I'll just be making up for all the times I didn't do that earlier on.
I'm getting at, where does the passive ownership cross the line into rent-seeking?
Who cares? Let's quit using "rent seeking" as some kind of pejorative. It's not, and it's nothing to make some big deal over.
You know, let's be honest--starting your first business is hard, because you have to learn about marketing, customer outreach, listening to people and connecting them with things they want, etc.
But 100 hours a week, for years? There's something bigger going wrong there--either you're trying to sell something people don't want, you've hired a lot of the wrong people, or whatever, I don't know. That's not typical, and it's certainly not praiseworthy.
As for that "indefinite free money for past work," again, you're free to say you want that, and right now it's certainly yours to try and put into a contract. I don't agree that it's moral or right or deserved, no matter how many 100 hour weeks you work.
There's something bigger going wrong there--either you're trying to sell something people don't want, you've hired a lot of the wrong people, or whatever, I don't know.
I'll just politely ask that you refrain from judging us when you don't know anything at all about our circumstances, situation, goals, etc.
That's not typical, and it's certainly not praiseworthy.
I never asked for any praise. In fact, I'll be the first to say that some aspects of my life have been downright stupid. My point was just to illustrate, through one example that I happen to be intimately familiar with, that starting a company is hard. Much, much harder than most people realize, if they haven't been through it.
As for that "indefinite free money for past work," again, you're free to say you want that, and right now it's certainly yours to try and put into a contract. I don't agree that it's moral or right or deserved, no matter how many 100 hour weeks you work.
But it's not "indefinite free money" anyway. It's "a percentage of the profits this company might make, relative to my ownership stake". The thing is, the company isn't guaranteed to make any certain amount of profit, or even any at all. At any time, things could take a downward turn, and any profit (and my cut thereof) could dry up. That's back to one of the main reasons that founders get a larger share, because they take on more risk... but you have to realize, there's no point where that risk ends. As long as a substantial portion of your income is tied to your company, whether your actively working or not, it's at risk. So it's not necessarily the cushy "sit back and enjoy your plunder" scenario you seem to be envisioning.
I'll remind you just as politely that when we post our experiences to public forums, judging comes part and parcel with that.
But, you know, I don't need to refer to your specific situation at all, and I stand by the statement: any business that requires 100 hours per week for years from anyone is either understaffed or (if it can't actually pay for people to do those hours) not really a viable business.
You can do what you want. If you want to work 150 hours a week, and scrape out 18 hours of sleep among those 7 days, go nuts, I don't really care. But to say "I'm a businessman, I have to put in 100 hours a week for years on end," no, sorry, I'm not buying that there's actually a very good business there, no matter what the business model is or who's involved.
And that says nothing about the questions about rent-seeking that kicked off this thread...
I'll remind you just as politely that when we post our experiences to public forums, judging comes part and parcel with that.
True, but no one here really has enough information to truly make those assessments. That said, I get what you're saying and I actually agree with you to a large extent. In our case, doing things the way we chose was not a reflection of anything specific about the business or the business model, it's been more a reflection of our beliefs and attitudes and principles.
And to be fair, if I had to do it all over again, I probably would change a few things. Not a lot, but some things. Like not neglecting my health. I just went out and spent an hour on my bicycle earlier tonight, getting some exercise in. That was a part of my life I let slip over the past few years. Never again... I learned that lesson the hard way, and thankfully I'm still here to benefit from it.
>>But 100 hours a week, for years? There's something bigger going wrong there--either you're trying to sell something people don't want, you've hired a lot of the wrong people, or whatever, I don't know. That's not typical, and it's certainly not praiseworthy.
You really need to get back to us after you've tried starting your own company. Even when you're not officially on the clock, it's impossible to put it out of your mind. I do not envy start-up founders; I'm quite happy with my inflated bay area engineer salary and up-to-date skillset that allows me to simply jump ship or swim to the next luxury yacht when the current one capsizes. (Honest) founders really pour their heart & soul into the business and have probably made some personal-life sacrifices and trade-offs.
Founders more than deserve the lion's share of any benefits yielded by the company.
And I'd say, you really need to step outside the YC bubble
YC has nothing to do with it. We're not a YC company, and we have taken no outside capital at all, which is one major reason I've been working so hard... because everything that needs to be done, falls on the founders to do. There is nobody else, since we can't afford to hire anybody. OK, we did have a paid intern one summer, but that's the only time we paid anybody anything.
Now, of course, you could say "well, then go raise a round and hire people". To which I can only say, we have made the decisions we made, for reasons that are important to us, and we are happy with them. I think the day will come when we will look to rise outside money, but it'll be when the time is right.
Anyway, just wanted to make it clear that my personal story has nothing to do with YC, or the "pressures of being a VC funded company" or anything of that sort.
I do know if I were talking to any of my business friends, and I said, "I've got a great new idea for a business. The model depends on me working 100 hours a week for years on end," they'd laugh.
It wouldn't sound like a serious venture, it'd sound like I was joking. (Or, to be totally honest, it'd sound like I was taking a mean-spirited dig at the internet startup people who think that's not just OK, but normal!)
I'm glad you made the decisions you did. I wouldn't be happy with any choice that threatened my health as severely as you've described above, but that's where my priorities lay, and I totally get that you have others.
I do hope you have success, and can stop working such long hours, and that it comes before you have to make further sacrifices to your health.
When you're truly passionate about what you do, how you do it, who you do it with and who you're doing it for it doesn't matter what the "normal" business world does. You end up doing what's right for your company at that moment.
I don't go to bed without reminding myself that this isn't just for me. It's for my employees (livelihood), my customers (their businesses) and my family (creating a better life).
When you frame it like that, hours just turn into numbers. It's irrelevant. Results matter.
IMO, it's not bull crap. I may not care about the little problem in solving today but I am mist certainly passionate about my company, my employees, our product and my family.
Take a look at the restaurant business. When you open a new restaurant, working from before opening to after closing every day is not atypical, even when you are selling something people want and have hired the right people. Going months without a day off is unsurprising. It may not be praiseworthy, but it's not something to look down your nose at either. Its just solid, honest hard work that's required to establish a restaurant from scratch. And if the restaurant is successful enough for the owner to try starting a branch, then the owner is going to have to split his time between the two, thereby expecting all the profit from the first restraunt while being at the new restaurant a majority of the time to get it running. Is that rent seeking, or free money for past work? Perhaps you think so, but I don't agree, and likely most people would not agree either.
With that definition, you may as well count sleeping as work too if you dream about your job. It sure is easy to work 24x7 when you count everything you do as work!
Then vote to raise taxes on revenues and inheritance. We need enough taxation to give everyone a reasonable standard of living, but not so much as to discourage private enterprise. I think it's achievable, given the recent growth in productivity.
Agreed, a hundred percent. I'm doing my own startup right now, even (not profitable, but revenue-positive!), so it's not like I have no dog in this big-picture race. Private enterprise is important. I also see how things are awful skewed in favor of the established money/power.
And as for voting on taxes on revenue/inheritance, I do, heh! A few years ago, here in Oregon, they tried to eliminate the estate tax (again), and I happily voted to keep it.
Actually, the past 70 years, of productivity gains accruing to labor and being fairly widely shared in society, is pretty atypical (over the past couple of hundred years). In most western societies (and other where records are available) those owning production (typically land, but sometimes factories) captured most of the wealth.
"That big chunk of profits comes from the fact that you took the initial risk"
And why do any of the current employees care about that? All they see right now is you sitting on your ass while they're the ones doing the actual work.
"you worked the endless hours at the beginning"
And now you're not, and they're the ones working the endless hours. Or perhaps a number of them were also there at the beginning, working the endless hours.
"you created the whole thing in the first place."
This is not always true.
"Why on earth should they resent you continuing to take your fair share of the fruits of your previous labor?"
Because they don't see it as being a fair share.
"If they have a problem with that, the problem isn't with you, it's with capitalism in general."
Not necessarily. Capitalism doesn't say that one should be able to rest on one's laurels forever.
And quite frankly, if you want your employees to work hard for you, then you need to lead by example. If you're going to sit on your ass, then why shouldn't they?
>>"That big chunk of profits comes from the fact that you took the initial risk"
>And why do any of the current employees care about that? All they see right now is you sitting on your ass while they're the ones doing the actual work.
Furthermore, they may see themselves as the reason you did not fail. In their minds, it was their brilliant insight about X that saved you from failing.
>>"If they have a problem with that, the problem isn't with you, it's with capitalism in general."
>Not necessarily. Capitalism doesn't say that one should be able to rest on one's laurels forever.
It doesn't matter whom the problem is with. It is now your problem.
One way to work this is to have the person who replaces you be "you, but only a few hours a week".
That is, automate your business to the point that it takes substantially less than one full time person to run it. Kill off all manual recurring tasks, automate all the common customer service interaction, get the infrastructure ticking away so that it stops routinely blowing up on you. Get things down to just a handful of customer emails that actually need a human response, then book that flight to Ibiza.
They have wifi, I imagine. Run your business over coffee in the morning, then go off and live your life.
Indeed during the recent dotcom mania a bunch of quack business writers suggested that the company of the future would be totally virtual -- just a trendy couple sipping Chardonnay in their living room outsourcing everything. What these hyperventilating "visionaries" overlooked is that the market pays for value added. Two yuppies in a living room buying an e-commerce engine from company A and selling merchandise made by company B and warehoused and shipped by company C, with customer service from company D, isn't honestly adding much value. In fact, if you've ever had to outsource a critical business function, you realize that outsourcing is hell
To make peace I would suggest that, this approach is perhaps doable at a smallish scale by eccentric individuals, but not on a wider scale. The proverbial $25k p/m T shirt business.
Keep in mind that Joel was talking about a business with zero value added by the founders. For a SaaS business, 100% of the value is added by the software written by the founders.
If it's worth $50/month to the customer when manned by a guy doing a thousand tasks by hand and answering every email that comes in within 10 minutes, it's still worth $50/month to that customer once that guy gets organized.
But you're right, you probably won't earn much more than $25,000 per month for that half day's effort. Really puts a crimp in my yacht buying budget, that does.
Indeed, you are relying on the inefficiencies of the market you are currently operating in. If you find a niche where that works, milk it while it last, but any serious competition will remove the middleman.
There is however a value added that can be overlooked: cashflow. If you have enough cash to smooth the various money transfer between client and provider A,B,C,D that may be enough to keep you in business.
I thought of selling some product on Amazon that makes you a shitload of money initially and has massive margins and a big market (for example, wool) but Amazon will destroy you ASAP.
I've listened to a podcast or two by people whose full-time job is, essentially, Walmart-to-Amazon arbitrage. (Hit up every big box store in your town twice a week for items which your noggin and Amazon app suggest are currently substantially more dear on Amazon than they are at the store; clear the shelves at the store if you find any; ship to Amazon and have them do fulfillment; buy more inventory when the money comes back.)
It feels to me like it's one of those things that shouldn't work in a world with perfectly efficient pricing and spherical cows but apparently it does actually support a handful of people in the real world.
Arbitrage specialists continue to this day when you'd think every pricing disparity has been dealt with. But they keep finding more.
I don't think there will ever be a day when there is not arbitrage opportunities to be exploited.
In any case arbitrage specialists are adding value by eliminating pricing discrepancies and clearing the market. It's a legitimate practice and you get paid for your smarts and risk.
It's pretty interesting. We work with many of these folks, who are buying discounted gift cards to save even more on the purchasing side. Seems to be working very well for some folks.
To be fair, in those models that assume "perfectly efficient pricing" this would not be considered arbitrage because of the obvious inventory risk and cash flow implications.
In models that don't assume perfect efficiency this economic activity is the driver of the pricing parity. That is, the market is efficient because there are very good & usually professional businesses that drive these differences in price away.
The main takeaway from "The Four Hour Workweek" is that if you manage to sell enough copies of a book outlining how to live off a 4 hour work week, then you can live off a 4 hour work week.
Because it's your job and you're being compensated to do so. If the company is running fine without the owner, and his/her being away isn't negatively affecting your own ability to do your job, then why does it matter to you what they up to at any given moment?
How hard you see the owner working shouldn't be the primary motivation for you to work hard. There are other levers (dollar compensation, equity allocation, promotion opportunities) that should fill that role instead.
Generally, you don't work directly for a 4HWW type company. These types generally always hire contractors and choose their products so that they have enough margin to be able to afford them over employees.
The real risk of doing it this way is your market slipping away from you while you're on the beach checking out. Of course, you can always book a flight home and build a new muse once this one peters out, but the high margins that allow you to automate will run out eventually.
I'll put it in a less charitable way - because those few e-mails are probably worth more to the company that a month of your work.
I find those "The Dog in the Manger" assertions weird. Most businesses are started by people wanting to make big money - often to secure not only themselves, but their families and causes they care about. Can't blame them, because frankly, even 8h of work week most of us are trapped in seems like a ridiculous waste of life. So the system promises them more money for less effort if they shoulder the risks and initially work their asses off to build a business. They do so, and now we should renege on the promise? Sounds like a great idea if you want to ensure the next people decide not to bother starting anything.
because you're presumably being paid as well or better as you would be to do the same job for another company? if that were the case, i wouldn't really care what the person paying my salary was doing with his or her life.
Yet I know several founders who do exactly that and with great success.
I think it comes down to what kind of business, what your business is based on (IP, network, patents, technology, marketing) and if you are the kind of person who understand how to hire the right people and delegate the right kind of jobs.
For every rule there are exceptions. If you're 100% confident that you can do this by all means, go ahead. But my experience to date suggests this is a recipe fraught with all kinds of trouble and just hiring 'the right people' isn't going to cut it (if only because people change over time). In the end you'll either end up returning to recover from some disaster (it's still your problem after all, as a majority shareholder), you might lose the company altogether or you'll end up selling it anyway but in worse shape than when you left.
There is always a middle ground, but sometimes that middle ground isn't quite wide enough to stand on and it's better to go for clarity, have your hands on or have your hands completely free.
I know a couple people with businesses like this. In each case, it's because they stumbled into a business that was unexpectedly profitable, but which wasn't something that they really wanted to be in. Usually it's not something that can really be sold either - typically they're taking advantage of temporary market niches, are too small to be of strategic value to a big player, and have a geographically-distributed and lightly-attached employee base that's not a good candidate for a talent acquisition.
Under these circumstances, usually the most rational course is to treat the business like an annuity: while it lasts, milk the profits, do all the stuff you really want to do like travel the world or write a book, and save up a bunch of money. The gravy train will end eventually, but they never wanted to be in this business in the first place, so "losing the company altogether" is a plus.
The missing piece if the puzzle is that the road to passive income is passive investment. Cashing out and investing the proceeds in suitable syndicates is the what is likely to work. If you retain significant equity, you didn't cash out and you've got a passive investment portfolio with no diversity.
Incidentally, this is also true of renting a condo or house you own. A couple friends have attempted to rent their condo or house and move somewhere else. This has never worked out well. It is possible to hire a company to manage the condo or house, but that is expensive and the profits never quite arrive.
I have seen a couple friends successfully rent places they live near.
> It is possible to hire a company to manage the condo or house, but that is expensive and the profits never quite arrive.
This makes sense if you think about it from a capitalist perspective, though.
Adam owns a condo and rents it out. He makes $500/mo after his expenses. Unless competition for property management is very high (quite the opposite), the "perfect" amount to charge for that service is going to be as close to $500/mo as possible while still getting Adam to pay it.
The most common complaint I've heard about property management firms is that somehow their prices always seem to be somewhere in the 95-105% of net profit for a single well-appointed property.
I've discovered that this is a general rule in any similar industry- time-shares, boat-charters, etc. There are people who are professionals in that industry. They know where the money is, and they get it. We are basically amateurs that they are welcoming to their playing field.
In most real estate markets, it's going to be hard to rent out a single family home purchased in the past 5 years with positive cash flow, factoring in a property manager. The profit comes in when you account for appreciation of the property and the accumulation of principal. However, if you have the cash, this can be a good tax strategy -- trading an annual operating loss in return for long-term appreciation of the property.
There are plenty of people who have owned their homes for 10-20 years who can make a decent profit in renting them out.
I'd add that this is mainly because in most markets the economics of buying a rental property are very different than buying a property to you want to live in. You end up taking on a larger mortgage for the latter, which drives up your minimum rental price, which may or may not be good for your market. If you've never run a property as a rental income property, there's a lot of nuances to that you have to be prepared for, like pricing your property to the market instead of to whether you like your tenants.
I think this depends on where you are. Plenty of people in Australia and New Zealand let their houses through agencies and get along just fine.
To be fair, these markets are pretty bubbly, and everyone is just hanging on for capital gain (it's no biggie if you have to "top it up" a little bit). Plus, losses are more or less tax deductible (e.g: http://www.ird.govt.nz/property/property-rental/deductions-y...). This includes agents fees.
> It is possible to hire a company to manage the condo or house, but that is expensive and the profits never quite arrive.
This totally depends on the purchase prices, interest rates, rental rates and other variables in a given scenario. The generalization that you can't profitably rent out a property while also paying a property manager is obviously not true.
Yep. Generally, as the advice goes, when you're looking for a rental property to purchase, anticipate property management fees and include those fees in your profitability calculations -- regardless of whether you're going to hire a property manager or do it yourself. If the purchase does not make financial/business sense when including those management fees, then it doesn't make business sense at all, and you shouldn't buy it.
This is exactly why I sold my condo instead of doing what a bunch of friend suggested and renting it out. I was moving across country and would not be able to attend to the condo same-day for anything that comes up.
You don't really need to make money on appreciation, you need to make profit. If you have a mortgage and the rent cover the charges - you only need to beat inflation on the cash investment.
For a simple example [x], I know people in London that got a 105% mortgage around year 2004 and the rent has always covered 100% of all the costs. Assuming it continues that way for another 15 years, anything they can sell the property for is going to be pure profit.
[x] I was happy to have something to eat in 2004, but I don't think those 100%+ mortgage were accessible to buy-to-rent property. So I guess that is technically against your mortgage policies and theoretically has a small risk to have the bank suing you for compensation.
If you are not able to hire a property manager, pay them 10% on all rents collected, and make a profit, then I don't recommend holding that property as a rental.
This also overlooks commercial properties, which routinely return at a very decent profit with no management involved and very few issues, because the lessee undertakes to look after the property.
Essentially, if you buy and pray, you generally will get taken to the cleaners by the people with experience. But this is the same as any other industry.
The big benefit of property is the ability to use leverage to multiply returns. Few other asset classes will allow LTV ratios like property. Get the sums right and you can create a profitable asset and accrue significant capital gains, all the while mandated-inflation is eating away at your LTV ratio.
I've never heard of a property manager that charges more than 10%... When you add 1st month's rent plus 10%, the first year is higher than 10%, but that's about it.
I'm currently working for a smallish family-owned company and I'm tempted to forward this to the owner.
He doesn't want to retire but also doesn't want to commit to the time requirements of the day to day operation of the company. This wouldn't be a big deal because he has set himself up with some great managers and a solid foundation.
However... about once a month he gets an itch and decides to get in the middle of the smoothly running operation he spent decades creating because he "wanted to help." It just causes chaos and anger by the people running the company for him the other 25 days each month.
I don't agree that it's this black and white, but it's likely to be true for most small-scale companies.
The way I always describe it to people is that salary != profit. Let's say that you are making $100k a year running your company. How much would you have to pay someone else to do your job with the same level of effectiveness? If it's $50,000, then you're making $50k a year in profit for being the owner. If it's $150,000, then you are actually giving up $50k per year for the privilege of being your own boss.
It's certainly possible to be a non-participating owner and make a good profit on a business. This is what Warren Buffett does with Berkshire Hathaway -- he buys profitable, well-run companies and usually keeps the former owners on to continue operating them. Doing it from the other direction is much tougher, because you either need to make yourself redundant or hire your replacement.
I might be missing something here, but isn't hiring somebody new to do your job exactly what the new owners of the company have to do if you sell it? Maybe this will be delayed by golden handcuffs, but sooner or later it has to happen.
If you sell it you won't be hovering over whoever gets placed in your position to tell them how to do their job and technically it is now the buyers problem, not yours.
Bill Gates did it with Microsoft and at that level I'm sure that there is enough momentum in the business to keep it moving along or even to improve. But most smaller businesses (say < 30 employees or so) are both culturally and dynamically much more personal and being both gone and still present in the background creates a strange power dynamic (who's the real boss?) and frustration.
Has everyone forgotten about the "family owned business" or the business where you just keep it? I feel like I'm saying something foreign, where it shouldn't be foreign at all. Why does everything have to come down to selling the company
Here's my point: Everyone believes in growth. And everyone believes in small business, but people also believe capitalism is fine the way it is.
And we can believe all of those things at once, and wonder why we have poor people in our society, cheque cashing stores and inequality.
You can believe in those three ideas all you want, but they don't believe in each other.
The assumption is that with a "family owned business," you're still running the business, right?
The OP is actually saying that's one of the viable options -- to keep the business and stay at the helm.
What he's arguing is that you're not likely to ever successfully be able to keep the business (not sell), hire someone else to run it for you, and never have to work again -- the obvious exception being e.g. Bill Gates (and the difference being that Microsoft was so huge and firmly rooted that he could hand it off).
It says 'run it' right there in the title. Keeping it is definitely an option but running it by remote control is something I advocate (strongly) against.
It does, but the slant always seems to be towards selling it as a better option. I agree remote-management doesn't work. But even here on HN, very rare to see a pro-"keep it" stance on anything. Silicon Valley seems obsessed with "get rich" outcomes.
It depends on the business, the persons involved and it depends on your future plans. If you see it as 'leveling up' then selling it is the best way forward, if you want a nice business where you call the shots that you grow at your own pace then keeping it would seem to be the best course. But that's a totally different discussion and a much more complex one.
I would say that, if you're looking to try and "remote-control" your business, then it's probably a far better option for you to sell it than to keep it.
Eventually the owner will retire, so a sale does happen. There's always an exit of some kind, maybe not the glitzy glamorous one written up in the papers.
I know someone who ran a small town diner for decades and eventually sold it to a niece, who had worked there for the last twenty years anyway.
I worked at a company in this situation. Revenues were stagnating and senior employees started leaving. The non-CEO partner was uninvolved and kept pressing for a sale at all business meetings. The atmosphere at the company was pretty dreary.
The CEO remedied this situation by choosing a new CEO from within the remaining senior staff, while giving himself a new position of chief product officer/biz dev.
However, this was all merely a title swap, as the ex-CEO kept tight hold over the finances. So a weird power dynamic formed, as the new CEO was essentially effete. Anything that incurred a cost had to be discussed with the ex-CEO. The new CEO enacted a rigid fiscal policy by reducing headcount and the expenses under his immediate control. Morale fell and the new CEO eventually resigned.
The company is still in existence, and the owner is considering selling it now. Hopefully it's not too late.
This is the exact same lesson I learned, painfully, with rental property. I think it probably applies to everything. In my case, despite owning property in a college town (which you would think would be a sure win), I lost a lot of money and experienced a lot of stress, and finally came to realize that I could either be a landlord, which requires personal skills I didn't have at the time (I think I might have gotten mean enough now - age helps), or I could just sell the damn thing and walk away. Doing the latter was a good move. I wish I had done it a couple of years earlier.
I'm seeing this exact thing at a restaurant I work at during weekends. Owner shows up once a week to drop off pay checks and lives in another city (1.5 hours away).
> if you (and possibly your co-founders, also lying on the beach) are going to receive all or at least a very large chunk of the profits then why do all the hard work?
The stock market applies to companies that have gone 'public', not to privately held companies currently being run by the founders.
The article is not aimed at those that are about to go public or that have already done so but rather at the founders of companies with up to ~30 employees or so and < a few million dollars of turnover per year.
What about moving to a board position, like Bill Gates or Alexis Ohanian? You're still part of the company, but don't have to worry about day-to-day...
You can do that, and with a large company it will probably work. For a smaller company (especially one that is held privately or that only ever received small bits of funding) it likely is not going to work. One of the companies I've invested in went through this whole cycle and now has the original founder back as the CEO after several years of being absent.
The opportunity cost for the founder in that particular case is something I really don't want to think about even if for me as an investor his return to the CEO position is good news.
>take off to Ibiza and watch the money roll in while lying on the beach. Passive income if there ever was, it seems such a good idea!
I wish the blog author would have addressed the employee-empowered hands hands off approach suggested in 4 hour work week by Tim Ferris. That book seems to suggest (mostly) passive income approach is possible if done right, but this blog doesn't address that alternative to its suggested bad-outcomes.
Those are for the most part 'employee free' businesses as far as I understand it. Any company that needs a real person for its day-to-day management will not fit in the '4 hour work week' concept.
You missed the example of his own original company, he had employees, the moral of that part of the book was proper delegation and giving employees decision budgets.
If I recall 4HWW correctly, mostly the employees were contractors who worked for distinct companies to which you outsourced that function of the company. You were more there customer than their boss.
This means that before long there will be a general feeling of resentment, after all if you (and possibly your co-founders, also lying on the beach) are going to receive all or at least a very large chunk of the profits then why do all the hard work?
If they like their job and you redistribute a good share of the profits, I don't see how this can happen.
...after all if you (and possibly your co-founders, also lying on the beach) are going to receive all or at least a very large chunk of the profits then why do all the hard work?
This same resentment may (will) occur with early employees if the cofounders are part time. Have same issue at current company.
And the same resentment can happen if the founders are full time. This has happened to me 2x:
The first the sole founder was seen as fiddling while Rome burned, long lunches on with rich friends and always on the phone, never doing anything (and getting paid well for it). Now I recognize he was probably trying to line up another round - but this was dot.com 1.0, we were young and didn’t know how the game was played. Also he just wasn’t good at communicating this downward - or at least as far down as we were.
At the second place the founders were all regarded as incompetent, and thus getting paid well for doing useless work. I think they where just nerds, and bad at interacting people.
I think management is hard and resenting your boss is common.
> This means that before long there will be a general feeling of resentment, after all if you (and possibly your co-founders, also lying on the beach) are going to receive all or at least a very large chunk of the profits then why do all the hard work?
Isn't that the point of capitalism? Profits go to owners, not workers?
The point of capitalism is that profits go to those who work hard to earn them. Why would I bust my ass as an employee if you're just sitting on your ass, and you're still going to receive the bulk of the reward?
> The point of capitalism is that profits go to those who work hard to earn them.
No, the point of capitalism -- and for which its critics named it "capitalism" -- is that profits go to those who own capital.
The idea that the proceeds generated by hard work should go to those working hard rather than being captured by capital was sort of the central criticism aimed at the dominant system of the developed world in the 19th century by the critics that gave that system the name "capitalism".
Right; communism isn't "those who work hard reap rewards", but rather "from each according to his ability to each according to his need" (by way of the collective: collect and redistribute).
However, in actual communist countries in the former Eastern Bloc, they also chanted opposite slogans like "let him who does not work, not eat!". Certain "anti-social elements" not making the mimimum effort were not to have their needs met by the collective.
You guys make some good points & jokes, but to clarify, I was objecting to the "profits" part of "profits go to those who work hard to earn them". Under communism, workers own the means of production, so the profits of their labor go to them. Under capitalism, workers get paid a wage but the company profits go to the owners, who generally aren't dripping with blood, sweat, and tears after an initial startup phase.
Under communism, there are still structures that resemble corporations: they are just state-owned. In these corporations there are layers of management, with bosses at the top who earn big salaries. They have access to the flow of money and materials, and use that privilege to their own personal advantage.
Workers owning the means of production under communism is an empty concept. The workers don't actually hold any deeds that show they own some concrete share of anything, with a concrete monetary figure attached to that share.
Proper ownership means that you hold the title to a piece of the pie, and you can cash that out if you want to leave that system. That cannot be under communism, because freely held shares are private ownership. As soon as you have that, some workers will buy out shares from others creating inequality. Speaking of leaving the system: for many people from the Eastern Bloc between the 1940's and 1980's, that meant getting over some barbed wire fence, and losing everything they had. (Conforming that they actually owned nothing.)
The idea that everyone owns everything under communism is purely symbolic. In fact the state owns everything, and those who run the state, who have all the power, effectively are the state, and so they are effectively the owners.
This might give you the impression it's normal to hire general managers for businesses. In reality, it's rare that a "small company" (say a turnover of $1m-$10m, for a typical software or services company, or even 10X that) does this.
A clean break between ownership and management is a difficult thing.
Jacques does an admirable job of breaking it down in a way that gets the message across. To go further, I actually think it could be a great topic for an out-of-the-box young economist to take on. Like a modern Ronald Coase's "Theory of the Firm." It's got tentacles in a lot of interesting questions. The unpopularity (these days) of "adult supervision" investor supplied CEOs, for example. The relative obscureness of SMEs as an investment class outside of high risk VC for another.
It would be very unusual for someone to put his/her net worth (say $2m) into a small business unless they can run it. Does an economist-ic explanation exist?