Compensation structure and incentive

If your company is under a few million in EBITDA, COO is just a fancy title. Keep it simple. If the individual is in charge of operations you will want to see operating leverage improve with sales (but not stifle). Focus on fixed and variable cost as % of revenue.

You can search some recent threads on comp (equity vs. profit participation) but I would recommend against equity at the onset or even allowing a buy-in. It creates too many potential conflicts and limits your flexibility to terminate the person if they turn out to lack the skills you require. You can always switch from profit participation to equity down the road.

I strongly recommend Jim Sharpe’s blog. Much of what he writes resonates with me as it relates to search fund targets. What may be standard in a larger PE deal doesn’t translate well to smaller assets.

My perspective is that it is dependent on the sophistication of the individual. The most ideal forms of incentive is equity and even more ideal if they buy-in and put some of their own money on the line as opposed to simply upside where they can swing for the fence or just simply quit. If they don't buy-in, then looking to make a significant portion of their compensation as incentive based (equity or cash) is what we prefer. Come up with a scorecard of KPIs / metrics that you would like to see improved upon and are directly impacted by the COO. After determining how much of the compensation you'd like to have as incentive based, then tie it to the scorecard. Then you can track it monthly through proper KPI and financial reporting so everyone knows where they stand on the metrics that they are being measured from and compensated by. Protection of downside risk is difficult, again, unless they have their own cash in the company or a significant portion of their income goes away if the business deteriorates. The only concept I've truly seen is a clawback where if you bonus on a particular opportunity upfront and that doesn't materialize, you can clawback the compensation but that's not a very good practice as you can imagine.