By Fernando Berrocal

When your startup is at an early stage, advisors may provide invaluable guidance. Because most startups (particularly pre-seed, idea-stage ones) don't have enough cash on hand to appropriately compensate advisers, equity becomes the logical solution: offer the individuals who help you build a specific proportion of the startup in exchange for long-term rewards.

However, entrepreneurs must proceed cautiously when distributing equity, notably to close advisors. Here's a step-by-step guide to contacting advisors and understanding their motivations:

Types of Advisors:

Choose your advisors as seriously as you would a co-founder. At its best, an advisor may be crucial to your company's success. Know what you're getting yourself into by identifying the type of advisor you want to work with:

• The name advisor: The major advantage of working with this type of advisor is the opportunity to network. Perhaps they're a well-known figure who can help you gain access to their network or increase your startup's visibility.

• The practical advisor: Consider this individual to be a sounding board for you. They can assist with particular tasks such as hiring and go-to-market strategies, as well as collaborations and other matters.

Finding the proper match is crucial in any advisory relationship. If it's going to be fruitful, you'll know in a few months. Advisors frequently ask about participating in future funding rounds with their own money, investing directly in the startup. Advisors receive a brief glimpse inside a company's high-level operations, and if they like what they see and have the funds, they may wish to invest. Advisors are occasionally appointed to significant positions inside the business.

Where do you look for Startup Advisors

First, find out what you're searching for in an advisor. You want someone who can assist you compensate for a weakness you have.

Clayton explains, "You’re creating a job description and you want to kind of shop around for advisors".  For example, if this is your first time fundraising, having the advice of someone who has done it before might be beneficial. If your B2B team is strong in data and engineering, you might want to hire someone with Fortune 500 sales expertise. “Find an advisor that fits not only what's on paper, but also your culture and can work with you,” Clayton recommends.

What's the best way to start a talk about equity

Before you promise equity, ask a potential adviser whether they would rather invest in your startup. Direct investment offers them more skin in the game and sends a strong signal to potential investors.

When it comes to remuneration, experienced advisers may have a framework in mind that they've utilized before. It's up to you to decide if it's right for your startup.

The advisor agreement (free advisor template)

The objectives of an advisor relationship might be unclear. Help you and your advisor in aligning your goals by drafting a written agreement that specifies: 

• The advisor's area of competence.
• What they'll be able to assist you with.
• What proportion of equity (if any) or other remuneration they'll get.

The Founder Institute's FAST agreement was a solid beginning point, but its percentage allocation ideas were a little simple, and it lacked certain common company protections. Several regulations, particularly those relating to employment, have changed since the FAST agreement was last updated in 2017.

Make sure to document your agreement with your advisor, no matter what you decide. Especially if there is or will be equity involved. We propose that you consult with a lawyer and collaborate with your possible adviser to come up with a solution that works for everyone.

Types of advisor equity

Advisors, like employees, are often given shares of common stock, which are subject to vesting during the working relationship. Usually, they will receive one of the following:

• Restricted Stock Agreements (RSA): Which are usually issued when a company hasn’t raised much money or anything at all.
• Non-Qualified Stock Options (NSOs): This is the right to purchase shares at a certain "strike" or "exercise" price.

How much ownership do advisors have?

Anecdotal experience is the source of many proposals regarding the amount of equity to give to specific advisors. There is data available that gives us a clear picture of what's going on. In 2019, advisor shares were granted to a startup that raised less than $2 million. The most frequent configurations are as follows:

• Advisor RSAs: From 0.2% to 1%.
• Advisor NSOs: From 0.1% to 0.5%.

Because RSAs are typically given immediately after incorporation, before a company's fair market value has increased, they appear to have a higher percentage. The greater the fully diluted amount an advisor is generally awarded the earlier they join a startup. The distinction between RSAs and NSOs is mostly a legal one. RSAs are shares bought in advance, whereas NSOs are options to buy the shares that are generally given later.

Advisor share vesting schedule

It's critical to establish a vesting schedule for advisers, just like you do for yourself and your workers. These contracts frequently feature a two-year vesting period with no cliff. 

“Vesting doesn’t make sense for advisors the same way it does for employees”, Amit explains. That's because startups evolve rapidly, and the advisors you need at the seed stage are unlikely to be the same as those you require at Series B and beyond.

Most advisors will provide the majority of their value upfront, so a four-year plan isn't necessary. After a year or two, you can revisit the connection to evaluate if you wish to continue.

Some contracts have a three-month cliff, giving the parties time to figure out if the partnership would be beneficial and work out.

Remember

Before you provide equity to an advisor, think about whether it's worth it. Can you afford to pay them instead if you're profiting? An equity agreement might be the start of a beneficial relationship if you can't afford them.

It all comes down to how you'll employ the advisor. You should inform them of your requirements and expectations. Find someone who can serve as a sounding board and assist you to improve your startup.

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Ready to bring your startup to the next level? Apply to MassLight’s next batch. MassLight supplies capital and a dedicated tech team. We take equity in return. Have questions? Refer to our FAQ page.