The government’s furlough scheme came to the aid of over one millions businesses throughout the past seven months. At its peak in May, 30% of the entire UK workforce was furloughed. This allowed businesses to reduce vital costs at a time when it was most needed.
The scheme will come to an end on Saturday, October 31. Whilst many workers have already been brought back, plenty are still yet to return. The government recently launched its Job Support Scheme which is aimed solely at those that still cannot go to work due to lockdown restriction, however, that will not support those businesses that have lost significant revenue due to the many recent challenges.
This leaves business owners and CEOs with a seeming stark choice: bring all their employees back and pay them in-full or make them redundant.
Which is right for you, and them? And, are there other options available?
Let’s look at the maths. Any company that’s burning through cash – whether that’s their bank balance, capital raised in a previous funding round or grants – needs to take stock of their reserves.
If you have 12 months cash in the bank and you reduce your burn rate by 50%, that gives you another 12 months runway.
If you have two months cash way left and you reduce your burn rate by 50%, that gives you just two months extra runway.
That all may seem obvious but if you don’t think you’ll become cash-flow positive anytime soon, you’re better off making decisive reductions now rather than waiting until you’re about to hit the wall. Even a 20% reduction in costs now can add months to your runway, which might be the make or break for the survival of your business.
The reasons for furloughing
If you furloughed team members, it would likely have been for one of the following reasons:
- The role no longer exists
- Business slowed or ceased
- You took the opportunity to reduce or change the team
Furloughing certain staff made absolute sense because of these reasons but now it’s ending, every leader must consider their options.
As tough as it will be, once you’ve recognised why you furloughed team members – or perhaps soldiered on without furloughing, though that’s not sustainable – then the next steps become clearer.
For those team members whose roles no longer exist, it’s hard to get past redundancy as the next step.
But, for those whose role exists and who you’d really like to keep working with, what options are there to keep them on, at a lower cash burn rate?
Equity for cash
If business was temporarily down but now things are looking up, you’re going to want your team back on board and in action again.
The problem is that if you can’t afford to pay them – you’re a startup or new business, you’re low on cash, and it doesn’t look like you’ll be raising investment anytime soon. In that case, it’s a Catch 22 because investors won’t invest until you’ve got a product-market fit and some traction… but you can’t get to that point without your team, who at the moment you can’t pay…
How do you solve that issue? One answer is to pay your team in a mixture of cash (they need to pay the rent) and equity until you can afford all your staff costs.
This offer can be used to bridge the gap between the amount you are able to pay an employee and their market value or what they were paid before. Although it’s risky to give away equity, it’s far less risky than trying to march on without people you need to help you do battle. It can be the perfect solution to keep people motivated whilst temporarily alleviating your cash burden.
If you’re considering this, you’ll be thinking ‘how do I know what to give them?‘ Let’s take an example of a team member being paid £40k, but feedback is that their market rate is £50k. If your valuation is £2m, then that £10k difference represents 0.5% equity, vesting over one year. In other words, giving that person 0.5% equity would be the perfect compensation for the lower salary you’re paying them compared to their market rate, assuming you’ll be continuing to pay them below market rate for the next year.
If, however, you think you’re going to be able to pay them market rate again in six months, then you may settle on 0.25% equity instead, vesting over six months. And of course you can repeat the exercise again then if needed.
For the time being, your employee cannot pay rent in equity (though that might be a good startup idea!) so you’ll only be able to swap a small fraction of their cash salary for equity (or a large fraction, for a short amount of time but the savings might be the difference between extending your runway enough to get you to your next round, versus having no cash at all.
And once all that has been decided, the best way to do it is not give shares to your employees as it will create tax liabilities for both the employee and the company. Instead, you’ll want to give them EMI options.
Salary sacrifice
If you don’t have equity to offer (there’s no share options pool, you’re not a growth startup that has valuable equity to offer, or your team just aren’t interested in equity) then the other answer is salary sacrifice.
In the last six months, at my company SeedLegals, our data has shown growth companies, on average, have implemented a 10-15% salary cut because of the COVID impact.
Although salary sacrifices may be a great short term solution for the business, it won’t go down well with your staff and will require communication and engagement to fully explain the steps you need to take and how, or if, they will be compensated as a result.
You may have more revenue immediately but most of it may end up being paid out in arrears so be mindful to also look ahead.
If you’re committed to this step and all the specifics you’re asking of your team – i.e. to take a pay cut, or work longer hours, or give up holidays – have been agreed then it’s vital that they sign a contract variation agreement.
As an employer, you cannot unilaterally impose new terms on your employee that are worse than the terms in the employment contract that they and the company signed when you hired them, you’d be in breach of that agreement. So, you have to seek their agreement and formally change the terms, which could be crucial for your company’s survival.
The agreement will explain that if you are requesting these varied terms because of coronavirus that they will only be temporary and the employee’s terms will return to their original terms as soon as possible.
In summary, if your company is not profitable and you fear that you may be burning money faster than you can get back to normal, then you’ll want to act sooner than later to reduce costs and ultimately protect the business and its most valuable asset, the people.
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