
The financial mistakes behind why a startup laid off 400 employees overnight - smalter
https://www.teampay.co/blog/3-mistakes-that-crushed-zirtual-overnight/
======
newbie912
These mistakes and the ending advice are pretty distracting tangents to a
fundamental flaw: The business model can't afford employee overhead at even
poverty salary levels. Everything else is just noise.

The best take away is yet another damning piece of evidence against the "gig"
economy.

~~~
scarface74
The problem isn’t the “gig” economy. Having flexible part time work hours can
work for some people if they want some extra money and they aren’t the primary
bread winner.

Also $12-$14 hour is a livable wage in rural America, for full time hours, if
you didn’t have to worry about health care.

The biggest issue with the gig economy is our insane health insurance system
where the only way you can get affordable insurance is through your job.

But expecting college students to work for that amount is crazy.

~~~
Fomite
"...if you didn’t have to worry about health care" Also known as That Thing
Everyone Will Need To Worry About Eventually.

~~~
Ntrails
>That Thing Everyone Will Need To Worry About Eventually

(in USA #1)

I never have, and do not ever expect to have to, worry about it, because Euro

~~~
Fomite
Everyone will have to worry about healthcare eventually, even Europeans. You
might not have to _pay_ for it, but that's different from being able to ignore
it.

Also, if a scenario is about a U.S. company, and pay in USD, talking about
America seems reasonable.

------
ryandrake
Uggh, these kinds of stories send me into a rage. Here’s someone who evidently
knew little about technology, Silicon Valley, or running a business, and yet,
she had access to incubators, co-founders, and business-starting capital that
many of us (who are actually competent) only dream of. So jealous! More
evidence that life is not fair and it’s all about connections and schmoozing.

~~~
manigandham
>> that life is not fair

Yes, this shouldn't be a surprise.

>> it’s all about connections

Getting anything done requires the help of others. That's how society works.
The best way to get what you want is to help others get what they want. Focus
on the people and you will be 100x better equipped to deal with anything than
any amount of technical or operational knowledge.

~~~
chii
> Focus on the people and you will be 100x better equipped to deal with
> anything than any amount of technical or operational knowledge.

this is only true if what you're doing isn't innovation, but just making
business.

~~~
manigandham
What is "innovation"? You need people to get things done even if you're doing
research on new tech, unless you're Tony Stark inventing fusion reactors in a
cave.

~~~
cannonedhamster
And that forgets that Tony Stark came from a wealthy family and inherited his
wealth and made most of his money off of taxpayers through defense
contractors. We only like him because he finally started to do something other
than starlets or for himself.

------
jessaustin
_...discovered that Keating’s payroll projections assumed two pay periods a
month for a total of 24 pay periods a year. In reality, since Zirtual was on a
two-week pay cycle, the company had 26 pay periods a year._

ZOMG. Who is this "Ryan Keating", a high school intern?

~~~
scarejunba
For whatever reason, instead of counting the extra pay periods in the specific
months he raised the per-pay-period cost to compensate. An odd way to do it,
but there we are.

There's also a "his side of the story":
[http://fortune.com/2015/08/13/zirtuals-outsourced-cfo-
gives-...](http://fortune.com/2015/08/13/zirtuals-outsourced-cfo-gives-his-
side-of-the-shutdown-story/)

~~~
jessaustin
He's very polite, and really that is admirable after getting thrown under this
particular bus, but nothing he said here or there really explains why he would
have done this. The CEO needed projections she could use without deep analysis
on her part. Instead he gave her some riddles in spreadsheet form. There are
probably some SV CEOs who enjoy that sort of thing...

~~~
scarface74
What’s a riddle about that? You would calculate a monthly budget and 10 months
out of the year your salary budget would be higher based on 2 pay periods a
year and 2 months it would be lower. Most other expenses besides salary would
be monthly. You would accrue a monthly liability for salaries even though you
wouldn’t pay them out evenly. On the months with 3 pay periods, you would
deduct from your “salary account”.

I’m probably using the words wrong, but I would understand the concept from
two courses of accounting I took over 20 years ago. What business does anyone
have being a CEO that doesn’t understand simple accounting?

~~~
jjeaff
The most basic part of a CFO's job would be to make sure the CEO understands
that which he apparently did not do.

~~~
scarface74
I think a CEO should understand basic accounting. It’s part of Sarbanes Oxley
that _that senior executives take individual responsibility for the accuracy
and completeness of corporate financial reports._ If the company ever did go
public, she would be responsible for making sure reports are accurate.

For instance, as a private citizen, I would be responsible for making sure I
pay the appropriate amount of taxes even if I had an accountant if I was a
self employed consultant. If I get audited, my neck is on the line.

Ignorance is the reason that most professional football players go broke
shortly after they retire and they depend on “professionals”.

~~~
jjeaff
Yes. But shame on her for trusting the CFO firm they paid for this
information? The whole point of hiring a CFO or paying a contractor to do it
is so that you don't have to do everything yourself as the CEO. It would be
unreasonable to expect every CEO to know the financial details down to a
difference in 2 pay periods a year.

But that brings us to the real issue, which is that they were obviously
operating way too tight if a difference of 2 pay periods a year was enough to
bankrupt them.

~~~
icedchai
Unreasonable? Most of the company's expenses are employees, and a lot of this
stuff is common sense. It's hardly advanced math.

No way were they bankrupted just because of 2 pay periods. There is more to
the story.

------
kayhi
What was wild to me was watching the founder being interviewed, getting praise
for a potential billion dollar valuation then going out of business the next
week.

[https://thisweekinstartups.com/maren-kate-donovan-
zirtual/](https://thisweekinstartups.com/maren-kate-donovan-zirtual/)

~~~
ryandrake
LOL I couldn’t make it past a minute without throwing up. So much gushing and
hero worship, especially considering what we now know. Shades of Theranos
there.

------
emeraldd

      Donovan “dug into the numbers herself” and discovered that Keating’s payroll projections assumed two pay
     periods a month for a total of 24 pay periods a year. In reality, since Zirtual was on a two-week pay cycle, the company had 26 pay periods a year.
    

Umm, that's pretty dang fundamental. How the heck do the people keeping the
books not know the payroll schedule !?!

------
poulsbohemian
This, plus Keating's Fortune rebuttal, is fascinating stuff. Fundamentally,
she was the CEO so the buck stops with her; if the company folds because she
didn't understand the financials or the practical operations of the business,
then the blame is on her. But, you also have to wonder why Keating didn't
offer any guidance about the iceberg at which she was steering the ship.

It almost sounds like he wrote up some kind of simplified model, not something
meant as an actual operating document. She wanted to convert people to
employee status and took the doc as justification, rather than understanding
the actual data presented. Keating was not employed as CFO or similar role, so
apparently decided he was under no real obligation to provide further
guidance.

I think what's most interesting about this is that I recall doing case studies
on basics like this 20 years ago as an undergrad; because it's just that
basic. One is left wondering if there's a deeper story that would make these
seemingly obvious mistakes (IE: there is no way they could afford to make
those people employees) less obvious. Or, was it just hubris that they could
keep growing the business / an investor would come along and rescue them.

~~~
lovich
I imagine that convincing a CEO of important details of finance when she won't
even hire someone as a CFO goes about as well as convincing the CEO of
important details of technology when they don't think it's worth hiring a CTO.

~~~
sanderjd
Perhaps I'm misunderstanding, but isn't the outsourced CFO company's entire
business model based on providing services to CEOs who "won't even hire a
CFO"? If so, it would be extremely odd for them to scoff about how it's hard
to explain finance stuff to their core target customers.

~~~
lovich
I don't know if you ever worked in large companies that outsource critical
pieces of their company to contractors. I have routinely seen contracting
companies who were ostensibly there to provide service X, but in practice they
were there to make the management think that they were making all the right
choices

------
Karrot_Kream
So many of these postmortems end in "we should have hired an expert". I don't
really understand what drives people to not hire experts.

~~~
technofiend
Experts are expensive. And there's hubris or what I jokingly like to call the
maxim of management myopia: "Anything I don't understand must be easy."

~~~
geezerjay
> And there's hubris or what I jokingly like to call the maxim of management
> myopia: "Anything I don't understand must be easy."

So much this.

I know of a case where a company hired a junior java dev for a desktop project
and after his second week on the job the manager posted a ticket instructing
the newbie to implement a component to receive a video stream from a drone,
stitch the video stream into a 3D model, and render the 3D model in real time.
"How many days do you need to finish this?"

~~~
cannonedhamster
This is a manager who doesn't understand what they are asking or the
complexity involved. I suppose the appropriate response should be that time to
completion depends on the accuracy needed of the final 3D model as it's going
to take a few months minimum to learn entirely different skill sets, oh and
you'll need to include the hardware and compute costs for the storage and
rendering time. Also you'll need either a sim card or a physical base station
for the drone with an internet link. I..uh...may like trying to solve
problems.

------
tarr11
_You can’t quit paying an employee if you lose the client he’s working for;
you have to keep on paying his wages and other expenses even when you no
longer have revenues coming in to balance it._

This isn't _quite true_ if said employee is not salaried. You can still have
an hourly employee and then cut their hours if there is no work for them.
Employees may not like it, but businesses do this all the time. There are some
minimum hours according to each states wage laws, however.

~~~
ryandrake
I worked for a startup that hit hard times, as a salaried employee. They cut
us all to 1/2 paychecks for months, then down to 1/4 paychecks. So it’s
definitely possible. Probably nobody ended up below minimum wage so legal too?
Some people left and others accepted IOUs.

~~~
driverdan
Why would you continue working there for 1/2 cut pay?

~~~
ryandrake
The founders were genuinely good people and I was young enough to risk that
we’d be made whole. Also the dot com bubble was just recently obliterated so I
was lucky to have any job at all.

------
duxup
Seems like valid issues noted in the article they point out but they really
didn't say why revenues declined so much... sure they made choices that made
that harder to deal with but the cause of "that" (the revenue decline) isn't
really addressed.

~~~
e3b0c
As the article points out, the company's turnover rate surged and the quality
of employees went down.

What the article does not address seems to be the changes to the incentive
structure after the transition. Which I believe contribute to the failure to
an extent.

~~~
duxup
Yeah the article seems to reference what might have been a bigger issue... but
rather just blames making people full time and some other dork ups.

I think this was a larger systematic thing.

------
jpatokal
Thought of the day: in the same way that Uber succeeds by exploiting the
depreciation of its "driver-partners" cars, Zirtual failed because people
value a larger paycheck but no benefits over a pay package with benefits but a
smaller cash component, even when the package costs the company more to
provide and (at least on paper) has more value.

~~~
prolikewh0a
>people value a larger paycheck but no benefits over a pay package with
benefits but a smaller cash component

How did you arrive at this conclusion?

~~~
dannyw
The increased churn that Zirtual faced after moving to employees, keeping
total cost around the same and making up for it the difference by reducing
pay.

~~~
prolikewh0a
That doesn't really answer my question. What shows that these employees
preferred $15 over $12 with presumably employer subsidized health care (they
wouldn't have it on contract, I assure you), 401k, and other standard
benefits?

~~~
stale2002
The thing that "showed" that they valued the wages more was the fact that they
quit over it, and that it was more difficult to hire people.

That's literally what the article says. That people started quiting because of
it.

~~~
prolikewh0a
You can't then make the assumption that they prefer a higher wage over
benefits. You can merely take away that they started quitting over having
_their wages cut_.

~~~
jpatokal
No, the article says they had great difficulty _hiring new people_ at the
lower wage (plus benefits), which they did not at the higher wage (without
benefits).

------
otterley
Mods: Can you please update the title? It should be "The 3 Mistakes That
Crushed Zirtual Overnight"

~~~
shawn
_If the original title begins with a number or number + gratuitous adjective,
we 'd appreciate it if you'd crop it. E.g. translate "10 Ways To Do X" to "How
To Do X," and "14 Amazing Ys" to "Ys." Exception: when the number is
meaningful, e.g. "The 5 Platonic Solids."_

~~~
cdubzzz
The edited title is arguably more clickbaity in that it replaces the actual
company name with “this startup”. I also think the exception applies here
because the number is more meaningful, not just an “X things that Y” list.

~~~
TeMPOraL
I strongly second editing at least the "this startup" part; it's plain
clickbait.

------
_drimzy
If they didn’t have work for all the employees for all the hours, couldn’t
they have reduced the employee count? And only bring full time contractors
that had full cycles in the past? And work with a mix of full timers and
contractors to take care of variable load?

It seems like the actual reason they had to go down was because they didn’t
have enough customers as opposed to the 20% extra employee costs. Plus every
where in the industry the hourly rate of contractors is higher than the the
employees because of the benefits. Was the CEO a high schooler?

~~~
whatsstolat
Good question. Maybe they buried their heads in the sand until they went broke
and had to fire everyone. Rather than make a tough decision earlier.

Another theory if they cut staff they'd have to cut clients and therefore
revenue would take a hit which would be bad for their image raising most more
money. Might as well go "all in" hope to raise some more. If you go bust start
another startup.

------
sulam
This whole story doesn’t hold water. It sounds much more like what happens
when you have pushed your funding round right to the limit and then suddenly
it evaporates.

------
dabockster
> You can’t quit paying an employee if you lose the client he’s working for

Yeah you can. It's called firing them under right-to-work.

~~~
sowbug
> It's called firing them under right-to-work.

You probably mean "at-will employment." "Right to work" is related to union
membership.

Each of these concepts is applicable in some U.S. states.

------
Communitivity
I read this and then the comments. A fundamental take away of many is that
switching from contractors to employees was wrong. I think it was right, but
the way they did it was wrong. They could have done the shift slower, planned
better, and not have had as many problems.

The gig economy done right is a great idea. Right being fair to both the
contractor and the employer. Problem is, I almost never see it done right.
Instead, I see gig economy workers being taken advantage of left and right.

Let's take the middle of the pay, $13 per hour. For comparison, median pay for
plumbers in 2017 was $20.17 per hour[1]. Figure 2080 paid hours in a year for
a contractor for our purposes (that's no vacation). That's $27,040 per year
gross. Now let's adjust that to reality (i.e., net spendable income). For
ease, I'll round to the nearest whole dollar.

First, taxes. $27,040 puts the person squarely in the 12% federal income tax
bracket. Remember we are assuming fresh out of college, not married. Social
security self-employment tax was 12.4% is 2017. Medicare self-employment tax
was 2.9% in 2017. Let's assume they live in a state that levies income tax
(excludes WA, NV, WY, SD, TX, AK, FL), but they live in PA, one of the lowest
tax rates at 3.07% in 2018. Let's also assume no deductions for ease
(unrealistic, but I am not a tax accountant). So that's a total tax levy of
12%+12.4%+2.9%+3.07%=30.37%, bringing us down to $18,828.

Second, healthcare. You can't say that this is for people with insured
spouses, so healthcare is hand-waived. Instead, healthcare.gov defines
affordable health care at 9.56% of salary. Typically an employer pays two-
thirds the cost of the health care plan, so let's say 28.68% and round up to
30% because insurance companies charge more for individuals (could easily be
more than ~2% extra, but lets go with that). That's 30% of the initial gross,
not our after taxes figure, so a cost of $8112, bringing us down to $10,715.
That's $206 a week, or $893 a month, to cover rent, food, transportation,
internet costs (digital remote worker), and clothing.

To put that into perspective, it's $1425 below the 2018 Federal Poverty Level
for an individual: $12,140. Some agencies compare the FPL to before taxes,
some after taxes, but it's still almost $1500 below the FPL.

Another thing is that gig economy workers are often asked to shoulder costs
that would have been the responsibility of an employer, forcing some gig
workers to work crazy hours or in crazy conditions[2]. In Zirtual's case, gig
workers could have been paying for their computers, internet, and any software
when they were contractors.

When you are a contractor you need to be making 160% of what you would if you
were an employee, to cover insurance, increased taxes, and expenditures that
now come out of your pocket. You also shouldn't be charging at a dollar rate,
as it's an accounting nightmare and lends itself to some clients (or gig
economy startups) nickel & diming you or micromanaging your time.

Instead, charge a flat weekly fee based on assuming each week you'll work 36
hours on client work, 10+ hours on business marketing and administration, and
that you'll take a two week vacation. So let's say as a fresh college grad I
want to make the equivalent of if I was an employee making $45k per year. That
means I need to gross $72k. Dividing that by 2000 hours to allow for two weeks
vacation, I need to make $36 per hour. Remember that you have to assume you
are only going to get 36 billed hours, so multiply that by 40/36, which
handily works out to $40 per hour (I swear I did not plan that). Now multiply
that by 40 to get a rate of $1600 per week. That's not contributing anything
to your retirement or emergency fund (yes, you should start right out of
college - I didn't and regret it mightily). Especially if you are a
contractor, you must have a enough in an emergency fund to last you 2 months
without pay. So add %10 to your emergency fund, taking it to a weekly charged
rate of $1760, until your emergency fund is 2 months. Put any windfalls (tax
refunds, gift checks, etc.) into that emergency fund until it is up to two
months of pay, and hopefully it will be there by the end of a year. Two years
is more realistic.

If you are a more experienced contractor, things get wonky at the $128k level,
because social security not longer applies and retirement stuff is different.
If you are a contractor on the side (make sure your employer's IPR agreement
allows this, or get a explicit written statement allowing it), you can
probably charge 120-140% of what you want to make from your contracting work.

Make sure your employer's work comes first though, or you will find yourself
out of a job. That also assumes you work for 'Big Corp', not a startup at the
ground floor. If you work for a startup and you have non-trivial equity, you
are working for yourself and should be pouring everything into the startup.

The cost of living comfortably relative to the average income in the U.S.
seems to me to be higher now than it's ever been in my lifetime (50 years).
One estimate in 2012 says it took $150k to live comfortably in the U.S. then,
and it seems to have gotten worse since[3].

I am not an accountant, a lawyer, a doctor, and you should not construe any of
the above as legal, accounting, or medical advice.

[1]
[https://www.payscale.com/research/US/Job=Plumber/Hourly_Rate](https://www.payscale.com/research/US/Job=Plumber/Hourly_Rate)

[2] [https://philadelphiapartisan.com/2018/05/17/the-perilous-
gig...](https://philadelphiapartisan.com/2018/05/17/the-perilous-gig-economy-
why-caviar-must-pay-for-bike-couriers-death/)

[3] [https://www.businessinsider.com/the-basic-annual-income-
ever...](https://www.businessinsider.com/the-basic-annual-income-every-
american-would-need-is-150000-2012-3)

