Zirtual founder Maren Kate Donovan explains her side of the on-demand startup's implosion, and why 400 people lost their jobs overnight.
Maren Kate Donovan so far hasn’t talked to reporters about what caused her company, Zirtual, to abruptly implode earlier this week. But after the company’s second turn of events—the announcement late Tuesday night that Zirtual would be acquired by a company called Startups.co—she agreed to talk to Fortune. (I am a three-plus-year customer of Zirtual and have written about Donovan and my experience with the service.)
It’s “pretty much been hell, but I’m trying to get through it,” she said. According to the story Donovan tells, the company’s downfall rests in two rather shocking shortfalls: not having a full-time CFO and only having two people on its board of directors.
Here’s what happened, according to Donovan: Until about a year and a half ago, she and her founding team were handling finances themselves (“we were just doing it,” she shrugs). One of her investors recommended she hire an outside consulting firm—a “Silicon Valley CFO firm,” as Donovan describes it—that could provide turnkey CFO support and services.
Donovan refused to name the firm or say which investor recommended the service, except that it also had done work for some of the investor’s other portfolio companies. It installed a pointperson who ran Zirtual’s books and did pro forma projections at every board meeting.
[Update: Fortune has identified the outsourced CFO and spoken with him]
Earlier this spring, Donovan claims, she suspected there might be a mistake in the projections for the company’s burn rate. She says she dug into the numbers herself and found that the projections missed two additional payroll cycles that fell in May and October due to calendar purposes (the company paid employees every 14 days). Since the company operated with full-time employees, not independent contractors, two extra pay cycles were significant, or in Donovan’s words: “the numbers were just completely fucked.”
She says she sent a letter to Zirtual’s investors explaining the situation and letting them know the company would need $3 million in bridge funding so it could meet the obligations and also continue to execute on its plans (building out technology and increasing wages to $16 per hour to help retention). She says they got about halfway there and had drawn interest from outside investors that would have completed the round. Last week, Donovan says, those final commitments fell through.
About four weeks ago, Donovan and her co-founders finally hired a professional, full-time controller. “She dug in and was like, ‘wow, we’re going to have to rip it up from the ground up,’” Donovan says. It became clear that getting the extra funding was critical.
Donovan says she wasn’t worried because the company had not had trouble raising money before; the business was on an $11 million run rate, and was burning $400,000 a month—“which in San Francisco terms is nothing,” she says.
But when it became clear late last week that the round was not going to come through, she informed her current investors, who, she says, told her they would not let the company fail. Then the company’s HR chief quit abruptly—because, Donovan claims, she felt it was time to cease operations and let employees go at that point, while Donovan and her cofounders wanted to try to secure more funding over the weekend. “We thought we were going to pull through until Sunday because things kept lining up,” Donovan says. But the current investors didn’t come through— Donovan says the group had an all-or-none agreement and not all would participate. By the wee hours of Monday morning Donovan and her co-founders prepared to deliver the news to customers and employees. (Fortune has spoken with two investors who confirmed Donovan’s general account.)
Donovan says the company wouldn’t have needed much to avoid ceasing operations: “If we had just had another $500,000, we could have made another two weeks of payroll and found probably an external investor which wouldn’t have been a great deal for us, but it would have kept the company,” she says.
In addition to an outsourced CFO, the other perplexing thing about Zirtual is that, according to Donovan, it only had two board members: Donovan and Will Young from Tony Hsieh’s Vegas Tech Fund (the company had five board seats, but only two were filled). Young, too, resigned last weekend.
Looking back, Donovan says her two big mistakes were not having a full time CFO and not having a proper board. “If [a board] had actually been in tune, this would have been caught like six months ago,” she says, and they would have advised her to hire a CFO. She says she realizes now she should have come to that conclusion herself, but that she was “in over my head” in terms of how to even go about doing that. “I blame myself on a lot of this, in not hiring more experienced people, but it wasn’t any maliciousness beyond just naivete.”
She also said she was “penny wise and pound foolish” in trying to save the company money. “In retrospect if we had a senior finance person and a senior ops person it would have been a completely different story.”
Instead, Zirtual became the story. The press descended, and competitors started issuing statements that they were open for business, all while the company’s 400-plus ZAs, still shell-shocked, started support groups on Facebook to process what had happened and to coach each other on how to set up on their own.
Then came the next twist. According to Donovan, Startups.co CEO Wil Schroter was already a Zirtual client and approached her with interest in coming up with a plan. Under the deal, everyone who owned a piece of Zirtual — including Donovan, who owned a “significant stake,” but less than 50% — will get stock in Startups.co.
Donovan says her sole interest in the acquisition was to make employees whole, and she says that has been completed: Final paychecks were issued and mailed out on Wednesday and direct deposits were to hit accounts yesterday. (My former “ZA,” Mary Schein, confirms this: she received a direct deposit yesterday for her last weeks’ work, although not for her accrued paid time off; the company said that will come in a separate payment).
There will be no severance pay, and the deal did not include any renumeration for clients, like me, who have lost their money. (As of last Friday, I had about 7 hours remaining in my monthly plan, worth roughly $175). It seems obvious that Startups.co will have to offer clients who re-join some kind of incentive or make-good.
But will anyone rejoin? I’m not going to. I’m going to work with Mary independently. As I’ve previously written, she is incredible (whatever Donovan’s failings were, she was a good hirer of assistants based on the two ZAs I worked with). Mary already has drawn up a contract and she’s giving me extra hours each month—and will keep a lot more of what I pay her. (Mary is on her husband’s benefits plan, so she is one of the lucky ones).
Other questions remain: Will Donovan and the rest of the management team remain with the newly-acquired company? How many employees will come back? Those that do will have have to do so as independent contractors, not as employees.
And that is the ultimate irony of this story. In a painful twist, Zirtual had gone out of its way to distinguish itself as a sharing economy company that actually hired full-time employees; Zirtual’s 400-plus assistants were full-time, with benefits. That decision will now be called into question by legions of sharing-economy companies and observers.
Donovan insists the company’s troubles had less to do with the model itself than the fact that the model “needed serious financial chops wrapped around it.” But the full-time labor costs produced lower margins, which Donovan said was one of the reasons the additional finances didn’t come through in the end.
So while many questions still remain about Zirtual, and many may dispute Donovan’s portrayal of the story, there may be one painfully ironic lesson from this startup’s saga: Outsource your employees if you must. But don’t outsource your CFO for longer than absolutely necessary.
[Note: An earlier version of this story incorrectly said the overlooked pay periods fell in October and November.]