The highest paid CEO in Australia in 2019 earnt over $38 million. For most of us that is an aspiration so far removed from our lives that it is akin to winning the lottery several times over.
But these high salaries – at companies listed on the Australian Stock Exchange – come with an intense degree of scrutiny – as they should. By contrast the average Australian start–up CEO last year was paid $227,000 according to research done by Amazon Web Services and recruitment firm Think and Grow. This too, for an aspiring business owner, may be aspirational or for others it may even be a step down.
Yet how much to pay yourself is one of the first questions a founder-CEO must address.
So how should founders decide how much to pay themselves? There is one big question you’ll need to answer first:
What stage is your business and what’s your strategy?
This is the biggest question that needs to be answered to work out how much a founder should take home. We’ve seen numerous start–ups take on a mentality of growth at all costs and ultimately lose out when it comes to a long-term strategy. We also see a lot of business cases where there’s significant burden of high salaries and commonly see this lead to trouble.
For any business, financial modelling can be very beneficial as it can give you a reliable sense of cash runway or funding gaps. While cash is king, it is also important that businesses understand underlying performance of their business and have the right strategy to support growth.
Strategy 1: Salary as investment
In a business that is early stage (pre-revenue) the founder may decide to take a salary that’s well below industry or in extremely early stage companies, the founder may forgo a salary altogether for the short term. This sacrificing of salary in the short term is effectively the founder’s “investment” into the company. By not stripping salary out of the company in the short term, there is more capital and cash to invest in growth. That could mean hiring talent and paying them market salaries and wages, or simply better technology and equipment that can help fuel growth.
The reality is, as a founder, you own a part of, or all of the company. This often means short term pain for long term gain. You are trying to grow the value of your business over time, allowing for, ideally, an exit in time that reflects the value of the company that you’ve grown.
Strategy 2: Pay or grow
Whilst it is hard to know what the future holds, for any business this is where planning is very important. A founder will be looking at a business strategy for the next 3-5 years, understanding the funds and expenses needed to deliver on that strategy. From that perspective, the excess funds are where they should be looking to determine how much they pay themselves – or how much they have available to invest back into the business. However, this is obviously dependent on the founder’s personal life circumstances. Do they have existing debts that need to be paid? Is there a family that needs to be supported? And we would note, is the founder used to a certain lifestyle? Particularly for those business owners coming from a corporate salary it may be a measure of needs vs wants. Regardless, the level of salary will also depend on what funding is available to the company.
VC funding is not a fast track to getting paid
We caution our clients to tread carefully when looking at funding rounds – it’s not going to be a fast payday. The most expensive part of a business is its equity and once you give it away, it is hard and expensive to take back. Again, this comes back to the founder’s strategy. If the founder wants to significantly grow the company as they believe they have a product / solution that has a global market with significant ability to scale, then it might be worth looking at taking on funding rounds. Despite increasing the cash available to founders, there would likely also be investor pressure to keep founder salary low.
Start–ups vs SMEs: is the pay different?
There’s some illusion that “start–ups” are different to SMEs. In reality the differences aren’t as pronounced as you think. A big difference is probably expectations around funding, hence expectations around growth requirements, and how much flexibility the founder has to pay themselves from profit. SMEs have room to grow at the pace of the founder, there is no external party demanding certain levels of growth or investment back into the business.
In start–ups, we have seen an often growth at all costs attitudes, often driven by venture capital funding. We have anecdotally heard on numerous occasions that VCs can require in excess of 60-100% year on year growth. This can also have the effect of pushing down founder salary for the medium – long-term even while they give up equity.
There is a moral hazard in that VCs are in it to make money and they won’t necessarily be putting the founder’s best interest ahead of their own.
So how much is enough?
There is no easy answer. Ultimately every business owner has the right to decide how much they are paid from the profits they are making, or from the funds available to them and how much they plan to grow or maintain their business.
What is important is they understand the short and long term impacts of their salary on business growth, funding (whether this is through VC or even through bank loans) and their ultimate end-goal.