Let’s talk about how you go from
I want to start a business to
customers are giving me money. Well, we will talk about the part where you decide on a business structure, do tax planning, and set the whole thing up.
A legal structure for a business is, among other things, plumbing. It’s all buckets and pipes. Money flows through the pipes and sits in the buckets. Your objective is to get money from the customer (at one end of the system) and into the pocket of the owner (at the other end of the system) with as little leakage as possible.
When business operations cross borders, the tax considerations become hideously complex. The founder faces danger in the form of excessive tax, excessive administrative costs, and excessive complexity. Tax and administrative costs can be measured in money. Complexity creates distraction, which is an opportunity cost — the attention and focus of a founder is far more valuable than money. One right idea, well executed, can the difference between fabulous success and failure.
In planning your new multinational operation, optimize for speed. Get going as quickly as possible, so you can learn from real life experience. Tolerate barely adequate solutions at the beginning, and make them better with experience. And make sure that you have the right type of people involved at the each stage of the process.
My thesis is that there are three phases to the project:1
Make it up simply means you want to get to the best guess for a business structure as quickly as possible.
When I meet a new founder for the first time, we have a basic idea of what the business will do, where it will operate, where the customers are, and who will own it. All of these things can and do change.
Using those ingredients, we need to come up with our best guess on how to install the plumbing for money. How will the business accept a dollar from a customer? How will that dollar be used internally? What will happen to the profit remaining after all business expenses?
Simultaneously, we need to come up with our best guess for management, control, and ownership of the company. Among the managers and investors, how will their relationship be configured?
Here is how I do it: I draw pictures and I talk to people.
Specifically, I start by drawing legal structure diagrams. I simultaneously show the cash flow through the business and the business structure itself.
The diagram will show owners at the top of the structure, all the way to the operating entity at the bottom. Usually there are two or three layers, with holding companies and operating companies built in to do specific jobs.
The diagram will show cash flow. The customers are at the bottom of the diagram (because the operating entity — the entity selling products or services) is there. There will be arrows showing flows of cash from the customers into the business structure, then from one entity to another entity in the structure.
For instance, it is not unusual to have a company devoted to a single purpose. Maybe there is a quality control lab in Taiwan. Or a group of engineers in Germany. These provide specific services to the overall business process. Money will flow from the place where the money is collected from the customer. The quality control lab will be paid for its services. The engineers will be paid for their services. These flows are shown on the diagram by arrows flowing from the entity that made the sale to the corporations in Taiwan and Germany.
The operating entity will have excess cash remaining after its operating expenses (of which the quality control lab and the engineers are but a part). Where will that excess cash go? Well, some may remain in the operating entity and be used as working capital. Or, some may be paid as a dividend. These cash flows are shown on the diagram as well.
What we are sketching is no more or less than a skeleton, overlaid with veins, arteries, and a pumping heart.
I do this on paper at the beginning but transition to Omnigraffle as soon as possible. I create the diagrams, send them as PDFs to all of the people involved in the planning, and get input, comments, and changes from them. I then send out an iteration–an updated diagram. We do it again.
We might go through eight or nine iterations until we get things right.
Right enough I should say.
At some point someone will say
That’s pretty close. With that signal, we stop. We’ve made it up. We have an idea. We have a best guess.
The end product of this stage is the diagram.
Speed is important. To achieve speed, you need consensus among everyone that we are going to be deliberately sloppy. We are going to agree to a barely adequate answer, because a good answer only comes with testing ideas against reality.
To achieve speed, you need the right brains at work. And the right brains at each stage are different brains. Pick your players well as you go from
I want to start a business to
Customers are giving me money!
The Kolbe company has an interesting test you can take. It seeks to answer the question of how a person, when faced with a task, instinctively chooses to solve the problem. There are four categories, according to the Kolbe methodology.
Some people are Fact Finders. They want to research everything and get all of the information before making a decision. Other people are strong in Followthrough. They might not be able to write the rules, but if you want something operated well, they can do it. Still others are Quick Start. These are the classic
ready, fire, aim people. Finally, some people are Implementors, dealing with problems better using tangible rather than abstract tools.
Whether this stuff is scientific or slightly above astrology and sorcery, I can’t tell you. What I can tell you is that in observing myself and others around me, I see a lot of truth in the Kolbe analysis.
In the early stage — brainstorming from something to a rough sketch of a possible business structure — you want a Quick Start type of brain. A highly technical lawyer will get bogged down in tiny details and
what if questions that will probably not matter in the long run. Give this job to a Quick Start brain. Find someone who has a lot of experience, a lot of peripheral vision, and a sense of the road ahead. This is the person who, because of training and experience, will see the obvious knockout punches that must be avoided. The little pothole in the road? Worry about that later.
It can be useful to have the technical, OCD-oriented person in the room. They can raise alarms when they see a problem. Just understand that they may be in an emergency room full of bleeding patients, pointing out hangnails.
The human brain is a wonderful thing. When faced with a new idea, it immediately searches for and discovers all of the reasons why the new idea will not work. Use this to your advantage. Note what your brain — and the brains of others around you — kicks up. Note them, and move on. You can decide if the objections are walls or gates later.
Make it real means you take your best guess and either prove it wrong or make it good enough to spend money setting up companies.
Now we are going to take our best guess sketch, and start drilling down hard. From the business side of things and from the legal/tax side of things, we are going to test the structure we created. Is it bullshit or is it jellybeans?
At this stage it is not unusual for ownership to change, capital requirements to change, and even the business operations to change. We adapt.
My method for this is to have weekly meetings (in person, by phone, or Skype/Google Hangouts). Something magic seems to happen at about the third or fourth week. After going down our agenda every week (moving the most important things forward) there is a sudden reconfiguration and things are suddenly clearer. More often than not, business constraints cause a shift. And frequently this clarity results in something simpler.
It is at this stage that we introduce the second brain-type into the mix, and use this person heavily. This is the fact-finder. We know money will flow from an operating subsidiary in one country to a parent company in another. We know the types of expenses that will be incurred, and where.
We now need to gain certainty on the tax side. Can we efficiently suck profit out of a high tax country and store it in a low-tax country? Buckets and pipes, remember? We are collecting money from customers in a high tax country bucket, but we want the profit to flow to another bucket in a low-tax country, where it is taxed (maybe at zero). A Fact Finder brain is useful here. Now the technical details matter.
We don’t want the tax planning to be perfect at this point. Again, we are looking for the knockout punches. If we have a leaky boat but we can keep it afloat with a crew manning the pumps, that’s a good enough result for now. Remember, at this stage we are still on paper. We haven’t built anything yet.
But still, keep the Quick Start brain ascendant. Keep oriented toward the goal.
At some point during this weekly iteration of business considerations and tax/legal considerations, there is a consensus that we are at
good enough. I judge that as a point where people say “Yeah, let’s spend the money setting up the companies. There is a decent chance that we might have to throw one or two of them away, but we are close enough that it’s worth spending the money.
We form the companies. We do not put all of the transfer pricing documentation in place, but we have a damned good idea of what needs to be done, and we know it will work.
We have companies. We have an idea about how they will work and how money will flow through them. We have an idea about how they will be taxed. We understand the general level of tax and accounting complexity imposed because the business is operating across borders.
Now we are going to get to operating the business as quickly as possible, and then learn from experience.
All of the transfer pricing stuff. We do it. (Hint: transfer pricing just means that one company pays another company for products or services. Since the buyer and seller are part of the same corporate family, we need to prove to multiple tax authorities that the price paid is an arm’s length price.)
All of the
operational stuff. We do it. Here, just sit and think for a moment. Fifteen months from now would the CFO or Controller be really, really happy that we wrote down a Standard Operating Procedure to follow? Is there something that the Board can look at and understand
Oh, THAT is the reason we decided to do that.
Now it is just experience. The internal employees of the business (business unit managers, executives, and day-to-day operational employees), the external accountants, and other key people have experience. Everyone looks for efficiencies. Everyone looks for ways to shave a percentage point off the average tax liability for the enterprise.
Engineer brains are amazing. You give them a problem or a process. They can’t help but make it 4% more efficient. It’s what they do. And give them a few years of 4% iterative improvement in efficiency, and after a while you have profound change. Look at the cost of solar power, as an example.
The Quick Start brain is not really useful here. In fact, the Quick Start brain is a liability. You want Fact Finder and Follow Through people to make processes better. A Quick Start brain will introduce radical changes, because that is what a Quick Start does — pop up with wild new ideas.
Remember at the start that we wanted to weight the humans heavily toward Quick Start and lightly toward Fact Finder / Follow Through? Now it’s the opposite. Invite the Quick Start to sit in on the meetings, but be careful about the ideas that spout forth from his/her mouth. 🙂
Project management famously will consider three constraints on getting a project completed: time, money, and quality.
I am suggesting that you deliberately choose against quality in tax planning at the beginning, and add quality as you go. Do not try to put a high polish on the brass doorknobs of life until the third or fourth year of operation.
For time and money during the planning process, optimize for speed. Be willing to spend more money and make worse decisions in the interest of getting to the stage of actually operating your business out in the real world.
When I am going through one of these projects, it takes me (as the Quick Start driving the bus) about four hours of thinking and working time to digest the results of a one hour weekly status call. The work spawned off from the weekly status call is allocated to myself and to others.
If you push really hard, you can get from the first meeting to the end of the
Make It Up stage in a week or two.
The second stage — getting to the point where you are willing to spend some thousands of dollars setting up corporations that you might well throw away later because of something you learn later — might take another month or six weeks. It all depends on the business.
Oh look at those pretty Articles of Incorporation to fully documented business structures (with the backup information and instructions that CFOs and founders will love you for later when they have a
WTF? moment) will take months. But here’s the deal. You’re launching operations while all of this is going on. You’re building the airplane while you’re taking off.
Lawyers hate risk. We are built to sniff it out and snuff it out, at any cost. So for me to tell you to be deliberately sloppy with your planning, be willing to make mistakes, and be willing to be wrong . . . that’s contrary to basic human nature.
Nevertheless, I’m telling you to do it. In a business, we’re talking about money. I’m betting that the cost of making mistakes at the front end (when you’re starting business and the stakes are still low) is worth risking.
I’m betting that you will make better decisions that will help the business grow faster. The founders can concentrate on building their products and services. They can concentrate on finding customers.
And that’s where wealth is created.
A few years ago I was handling an eight-figure real estate purchase for a nonresident investor. The deal was going sideways — because we had a useless broker working for us on the buyer side.
The escrow officer handling the transaction single-handedly turned it around. I was on the phone with him whining about something or another. He gave me an answer and wrapped up the call with a simple statement.
Let’s do this.
The deal got done. Those three words galvanized me into action. We bypassed our buyer-side broker entirely and successfully closed the purchase. The broker got her commission.
Mark’s words have stuck with me ever since.
Let’s do this.
Call me. Let’s get your business launched.
Let’s do this.