Making Money the Old-Fashioned Way

How do companies maintain values like frugality in their corporate cultures, years after the start-up has moved out of the garage? How can entrepreneurs resist the temptation to lease Class A space on the top floor with $800 Herman Miller chairs, once they leave bootstrap mode? That type of problem is an unexpected side effect of consistent growth and financial success.

I founded Aquent, now the world's largest talent agency for creative and Web professionals, in my college dorm room with two classmates, in 1986. Fifteen years later, Aquent has grown to 60 offices in nine countries, generating more than $200 million in revenue last year. It's a far cry from the early days when we were typesetting resumes, sitting on milk crates and celebrating a "three hundred-dollar day" in revenue. However, we're not living like millionaires.

Finance Growth by Reinvesting Profits

My co-founders and I currently own 100 percent of the company--but we've never viewed the business as a private checkbook. In fact, since day one we've reinvested every dollar of company profits back into the business, to fund growth. This required extraordinary discipline as we opened branch offices, because once a new office became profitable, it seemed justifiable to "splurge" on items we did without in the start-up phase. Yet, we continued to run those offices leanly in order to invest profits into new locations and new lines of business. Our business model for growth depended on taking profits from mature markets to fund growth in new markets.

As with most staffing firms, Aquent pays talent on a weekly basis, but our clients pay us 30 to 60 days later. If business is flat, cash flow evens out. But if business is growing, there is a constant lag between cash going out for payroll and cash coming in from client collections. Reinvesting profits from more mature markets enabled us to maintain high growth without outside investment. The result: By 1992, five years after our founding, Aquent was ranked 12th on the Inc. 500 list of fastest-growing private companies in America.

Avoiding outside ownership means our management team is not distracted by raising money, and our decision-making process remains quick. We're able to act more like a start-up than the larger company we are. Reinvesting all company profits means that we fund life events, such as purchasing a home or college funds for our children, by saving money from our salaries, just like everyone else.

Choose a Tax-Efficient Corporate Structure

We incorporated as an S-corporation, which enabled us to be taxed on a cash basis instead of on an accrual basis. Given the lag between when we pay talent and when we collect from clients, and since our business is constantly growing, our cash earnings for any given year are less than our accrual earnings. This has saved us millions of dollars since the inception of our company, and is a strategy that would work for most knowledge-based businesses. On the payables side, we can further reduce our cash by paying all incoming bills by the end of the year.

S-corporations are also advantageous because you avoid double taxation. The S-corporation is a pass-through tax entity, which means that the income or loss generated by the business is reflected on the personal income tax returns of the owners. For example, if the company earns profits of $100 and wants to distribute this to shareholders, the shareholders get $100, pay taxes (say 40%) and end up with $60. But if the business were a C-corporation, profits and losses would first be taxed at the corporate level. If the company earned $100, it would pay taxes (say 40%), then distribute $60 to the shareholders. But then, the shareholders would have to pay taxes as well (say 40%), keeping only $36.

Make Employees Co-Owners

Our employees' own frugality with company funds helped form the culture that exists here today. Most of our current senior management team joined the company during our first year. Despite not having an ownership stake at the time, they viewed the company as if it were their own. They held a long-term view: If the company didn't hit its goals for the year and no one received a raise, they just hunkered down and worked harder to find new ways to grow the business.

When business was good, employees were rewarded with raises and bonuses. I think our employees felt like owners, even then, because they knew that 100 percent of profits were reinvested in the company, which could then fuel growth and opportunity for everyone.

The advantage of using cash? instead of stock or options? is that it's easier to have the amounts go up and down in relation to company success. The problem with stock or options is that once given, they're gone forever. And with options, there's a challenge regarding how the price is set. For example, if you use a multiple based on public-company compensation, it may or may not turn out to be a realistic figure for your own business.

Plan Alternatives for Liquidity

Risks notwithstanding, in 1996 we took rewards one step further and implemented a stock-option plan that reflected our belief that every employee is an owner of the company. The stock-option plan, like our other financial arrangements, was unique to Aquent culture. The vesting period was long? seven years? to reflect our long-term perspective, and the options, as a one-time grant, were in addition to compensation, not part of the package. The stock-option plan opens the door to a liquidity event.

When the options vest, our employees will be entitled to purchase shares. For there to be a liquidity opportunity, the company would either need to go public or implement a private stock buy-back program. This is an issue with which we're currently grappling? we believe an IPO should be done only because the company needs money and when public equity makes the most sense compared to other vehicles for capital formation, such as debt or venture-capital investment.

We're looking at various alternatives to going public. Buying back shares would cut against our value of reinvesting for growth. Other options would be to get a bank loan, using the ownership stake as collateral, or bringing in a minority investor.

Have a Plan for Cash

Last but not least, we try to be careful about using profits wisely. While we enjoy comfortable working conditions, we've never been big spenders and we're not about to start now. There are three options we see for dealing with extra money.

• Invest in stocks. This strategy makes sense if you invest in companies in your industry, or in suppliers or vendors about which you have particular knowledge. You may actually be better prepared than a Wall Street analyst to evaluate these companies' management teams and prospects for growth. Or, invest for learning purposes? for example, in competitors' companies, so as to gain strategically useful information.
• Set up a venture fund. Here you need to be careful, because a company venture fund's investment objective is not always clear. Are you investing to make money or for strategic reasons? If you invest for strategic reasons, by definition there is less emphasis on the direct financial return. That's okay, but in such cases you might want to categorize those funds as marketing or research and development expenditures, rather than as an investment.
• Keep as cash. We see this as dangerous, because then it's tempting to spend it or distribute it to shareholders, in lieu of reinvestment.

Despite the current size of Aquent, we still think like entrepreneurs. Our mantra is "fail often, fail fast, and fail cheaply." The discipline we learned from our start-up days not only saves us money but also makes sure new ventures are well thought-out. We're frugal with our spending, we're disciplined in risk taking? and we still sit on hand-me-down chairs.