In an interview with ClearFacts.ca, Michael Mauws, Professor of Business Policy & Strategy, Athabasca University Faculty of Business, explains why declaring a salary on the books is so important to the success of entrepreneurs.
CF: How prevalent is it for an entrepreneur to deny themselves a salary on the books?
MM: In the early years, I think you'll find that very few entrepreneurs pay themselves what an equally capable manager would earn in their role. In some cases, this is their own doing, while in others it’s the result of angel investors or venture capitalists who think that well paid founders are less motivated.
CF: Why is declaring a salary on the books so important to the success of an entrepreneurial venture?
MM: A company's financial statements should provide a realistic picture of the company's operations. If an owner is doing work on behalf of the company, that ought to be reflected in the statements.
CF: What are some of the consequences of not doing so?
MM: Lives can be wasted on marginal ventures. It's better for them to find out as soon as possible that they're making less than minimum wage for working 80 hours a week and risking everything they own.
CF: How does not taking a salary play out in the event of a sale, merger or takeover of the company?
MM: Suffice it to say that partners can be cutthroat, even those that used to be your best friend. The same is true of potential buyers of a company. So the more "equity" a founder can get on the ledger, the better he or she is likely to do in any financial battles.
CF: What are some of the safest ways that an entrepreneur can re-invest his or her salary into their business?
MM: It's important to distinguish here between "declaring" a salary and "taking out" a salary. In other words, you can declare a salary in your monthly income statement, but leave the cash in the company in the form of a shareholder loan on the balance sheet. Another relatively safe way to keep money in some ventures is to privately purchase the equipment the company needs and to then lease it back to the company.
CF: So, an entrepreneur heeds your advice and works a reasonable salary for themselves onto the books. The operating costs of the company now reflect monthly numbers that seem near impossible to meet. Can this still be a viable venture, or is this a wake-up call requiring reconsideration?
MM: That's the whole idea here: to make entrepreneurs aware of their situation. Twenty years ago, the only financial information entrepreneurs had was their daily cash register tapes, their monthly bank statements, and their annual financial statements. Today, with very little cost, they can monitor the profitability of their companies on a daily, if not hourly, basis. The result of all this may be an admission that the venture ought to be abandoned. However, it can also be a realization that additional investment and/or growth is required to make the venture worthwhile.
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