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Monday, 10th August 2020
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Headhunters being paid in stock, too Back  
Never mind the cash, feel the stock: professional practices do it, executive directors do it, suppliers and consultants do it - so why not executive search firms? Leading Edinburgh based recruitment consultant Joanna Black writes about a widening practice.
The executive search firm you selected has found a new board member for your company. Now it’s time to discuss compensation: How much in cash? How much in stock options? Only it’s not just the board member asking these questions. The search firm wants equity in your company as well.

Taking clients’ company stock as payment for recruiting services is a new and growing practice among executive search firms.

What’s in it for the search firm is obvious: it gives up a portion of their fee to build an investment portfolio that could include a high growth company. What’s in it for employers? It encourages consultants to focus on the long-term for the client, rather than on quick fixes. It is an incentive for consultants to give their best because they benefit when the company does. It builds relationships and trust between management and consultants as both groups have the same goals, the risk is shared as the consultants don’t just take a fee and head for reception.

Search firms are essentially helping create teams and grow organizations. If value is added in that way, then the companies have a far higher probability of success and there is a higher probability of making a return on the search firms investment.

Expanding beyond e-businesses
To date recruiting-for-equity has focused on a relatively limited set of companies - mainly internet and software startups. Executive search firms will often consider offers of equity payment from any company with high potential. The likelihood however is that this service is going to be of more interest to smaller firms with good prospects but limited cash. In general terms larger firms are less interested in offering equity for payment and search firms are less interested, also because the potential for a ‘hockey-stick’ growth curve is not there. However in a turn around situation, or in a period of growth leading up to attracting a potential buyer or perhaps when an organisation is attempting to grow from a national to international company equity for payment may be an option.

Take advice and diversify
Before considering equity payments the legal ground should be prepared carefully. As most of these deals are pre flotation, the search firm will probably require a class of stock that will have an active market and the deal may include a vesting period in which the search firm will have to retain its stock. Also these deals are rarely carried out for main market quoted companies for the reasons already discussed. For a given search, some firms will accept as much as half of their fee in equity, but with a limited amount of equity searches per year. The maximum tends to be for 5 per cent to 10 per cent of its annual revenues.

Executive search firms have to limit the volumes of these searches for two reasons: firstly a search firm needs cash to survive from day to day and, secondly, taking equity introduces an element of risk into a company’s accounts that for larger executive search firms may be deemed unacceptable by investors. The issue for search firms is picking winner companies from which to accept equity. Recruiters usually rely on the due diligence of venture capital firms, which do a lot of the leg work in deciding which companies they would invest in. Most recruiting-for-equity deals are struck when a venture capital firm approaches a recruiter to help strengthen the management team of one of the firms they are backing or about to back. Search firms are far less interested in creating a management team to take to investors with no existing backing.

Conflicts?
A common question asked is about conflicts of interest. Will the search firm favour equity clients over fee clients? Will they maintain objectivity when dealing with the competitor of an equity client? These are really non-issues as a true search firm deals with conflicts in quite a simple manner. When a firm becomes a client the search firm in effect becomes ‘their man’. Most firms follow the practice of limiting the number of clients in each area of the market. If a potential client is on the horizon that may be in conflict with an incumbent client, both parties are informed of the others existence and the incumbent has a veto on the taking on of the new client. Also, when a placement is made the client company is off-limits to recruiting of staff from them for two years.

This type of safety measure can only be offered by a firm recruiting at senior level, as at a lower level it could not possibly be economical. The numbers of firms offering their services for equity has burgeoned over the last twelve months and has moved from a fringe activity into the mainstream of global executive search with some even setting up venture capital firms to put even further funding into their client companies. As this is a new concept it appears to be a constantly evolving one. Perhaps this is a case of “watch this space”.

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