Best Practices for Distributing Company Profits as a Founder
As a company founder, figuring out how much of the net profit to pay yourself is a crucial yet often challenging decision. This article will guide you through the factors to consider, providing insights on how to balance personal needs with the company's growth.
Factors Influencing Founder Compensation
Several factors should be taken into account when determining your salary as a founder:
Business Stage
The state of your business plays a significant role in deciding your salary. At the startup phase, it's common for founders to take a smaller salary to reinvest profits back into the business. A salary of 10-30% of net profit is often seen, especially when cash flow is tight. As the business transitions to the growth phase, founders may increase their salary to 30-50% of net profit based on the financial health of the company.
Industry Standards
It's also important to research typical compensation packages for founders in your industry. Some industries might have higher or lower average salaries for founders. This information can be found through industry reports, networking with peers, or professional associations.
Living Expenses
Your personal living expenses should be covered by the salary you take. If you have dependents or significant financial commitments, it’s crucial to ensure that your salary is sufficient to support your lifestyle.
Reinvestment Needs
Consider how much profit needs to be reinvested into the business for growth initiatives, hiring, or other operational costs. You may need to limit your salary to ensure that these reinvestment needs are met.
Equity Compensation
Having significant equity in the company might allow you to take a lower salary while benefiting from any potential appreciation in equity value. This strategy can be particularly useful in the long-term growth of the company.
Tax Implications
Always consult with a financial advisor about how your salary impacts personal and corporate tax liabilities. This can help you make a more informed decision about your compensation package.
General Guidelines for Founder Salaries
Many founders aim for a salary that balances personal needs with the company's growth, often falling within the 30-50% range of net profit once the business is stable. This range provides room for the founder to support their personal needs and invest in the company's future.
Best Practices for Managing Company Profits
Beyond determining your own salary, managing the overall profit distribution is essential for the long-term success of your company:
Surviving Financial Turbulence
It's vital to keep enough money in your company to survive financial turbulence. During early stages, especially in 2000/2001, when market bubbles burst, it was challenging to predict whether the downturn was temporary or long-term. Keeping several months of operating funds in reserve can provide a buffer during uncertain times.
Funding Growth
As you grow, be careful not to throw money at problems, but also not to starve the company. If resources are being allocated primarily to perks and personal conveniences rather than product development and market support, it might indicate that the company is not handling growth efficiently. Maintain a focus on strategic growth initiatives rather than individual employee perks.
Withdrawal of Profits
Maintain cash reserves for future opportunities and downturns. Markets are cyclical, and high-growth periods will eventually fade. After the current venture has run its course, ensure you have the resources to fund your next innovative idea and continue the cycle of growth. Regularly evaluate your profit distribution to ensure it aligns with your overall goals and the needs of the business.