A Deadly Trap in Seed Round CEO Searches

March 1, 2008

With all due respect to our competitors, I would venture that we conduct more early stage CEO searches than any other search firm in Canada, and we have the scars to prove it.

In a meeting last week I was reminded of a dangerous, sometimes deadly assumption that early staged companies make when hiring their first CEO. The meeting was a presentation to a selection committee looking to find a CEO for their recently funded company. As we discussed their requirements, one board member mentioned, ‘we want the new CEO to focus on taking the firm’s technology to market, while the founder/CTO and his team completes the product’. When asked for details on the status of the product he added that the product was 75% to 80% complete.

This is a classic seed round CEO mandate. Early-stage tech firms solicit funds in order to put the finishing touches on their products and take them to market. The founders know that if they are to be successful they must convince investors that among other things, the technical risks in their innovation have been overcome, or are close to being overcome. They have a strong motivation therefore to be ‘optimistic’ in their assessments.

Investors who buy-in quite reasonably start with the assumption that since the technology has been described as ‘under control’ their dollars can be directed to commercialization. Thus, they look for and hire a CEO able to secure user-trials, early adopter customers, partners and the like. A follow-on ‘A’ round investment is the only meaningful goal by which the seed-round CEO is measured. Achieving this is invariably tied to metrics skewed towards generating ‘traction’ in the marketplace.

Two truisms conspire to create the problems which often ensue. First, for a variety of reasons, that last bit of unfinished technology proves a lot more challenging than expected or promised for many seed companies. Second, the more sales and marketing oriented the CEO, the less savvy he or she tends to be around engineering and technology issues.

Thus, while the new CEO goes about generating the appropriate market traction, he or she risks missing the warning signs that the technology is not coming together as planned. Even if those signs are recognized the CEO is ill-equipped to fix them. When subsequent trials don’t go as planned the company’s fragile market traction sputters. Lacking the financial wherewithal and goodwill to absorb many such unexpected developments the firm can easily begin a downward spiral from which it may not recover.

Some might say that the easy answer to this problem is to hire well-rounded CEOs with a breadth of functional experience. This is often easier said than done. Seed-round and early stage companies are not for everyone. They are messy, entrepreneurial, roller-coaster rides which require an inordinate amount of heavy lifting. Some might say they are a ‘calling’ more than an assignment and many seasoned CEOs shy away from them. Thus, selection committees are forced to adjust and make tradeoff decisions. Given the true level of technical risk in many of these firms, a case could be made that these tradeoffs should be less reflexively considered than they currently are.

Another option is to hold off hiring the CEO until the firm meets a few of its post-investment product development milestones. As these gates are passed, or not, the firm can more accurately gauge the requisites for the new CEO. If the board is concerned about its market traction during this period, it might consider hiring a business development person at a lower salary to get the ball rolling.

The selection committee in question pursued this last option, thus postponing the hiring of a CEO. In this instance it was the right thing to do.