February 27th, 2008
Here are more frequently asked questions about advisors. See Part 1 for the rest. If you have more questions, email us at firstname.lastname@example.org.
Frequently Asked Questions
General (from Part 1)
- What do advisors do?
- Should I put together a board of advisors?
- How do I get good advice?
- How do I apply advice?
- How do I find advisors?
- How can I tell if an advisor is any good?
Compensation (answers follow)
- What should I pay advisors?
- What are advisory shares?
- Why should I pay advisors?
- When do advisors get terminated?
- Should I give advisory shares to my investors?
7. What should I pay advisors?
Nothing—get them to pay you. Ask advisors to invest. You get money, save stock, and amplify the advisor’s social proof in the process. But lots of good advisors can’t or won’t invest, so…
7.5 What should I pay advisors if they won’t invest?
Advisors are not paid by the hour—they’re paid for results. They’re not paid for their inputs—they’re paid for their outputs. If an advisor can uncork a million dollars of your company’s latent value with 15 minutes of conversation or a single introduction, you should pay him appropriately.
There are roughly two types of advisors—we’ll call them the normal advisor and the super advisor.
The normal advisor gets 0.1%-0.25% of a company’s post-Series A stock. Normal advisors do something important for the company and aren’t expected to do much beyond that. For example, they introduce the company to a key customer or investor.
Normal advisors are also assembled by naive entrepreneurs who think the mere presence of an advisory board will create social proof and help them raise money. But investors don’t take these mock advisory boards seriously.
The super advisor can get as much stock as a board member: 1%-2% of a company’s post-Series A stock. Super advisors help make your company happen. They know all your prospective customers intimately. Or they raise your money for you. Or they bring you a handful of great employees. They can even add more value than an independent board member because they don’t have to deal with corporate governance.
If you find a super advisor, you want to incent him as much as possible and push him to help make the company happen. They can be much more effective than 5 or 10 normal advisors.
Most super advisors are unique and Y Combinator is a great example. YC takes about 6% of a company in return for $15K-$20K. Although most of their companies can survive with the small investment, the money is effectively meaningless—it’s an artifice. Most of their companies would probably give 6% of their shares to YC for free, just to participate in the program.
YC acts like a super advisor, not an investor—and YC makes their companies happen by helping develop the company’s product, introducing them to investors, and branding their companies.
Whether you’re hiring a normal advisor or super advisor:
- Advisory shares are usually issued as common stock options.
- The options typically vest monthly over 1-2 years with 100% single-trigger acceleration and no cliff. Although the advisor is on a vesting schedule, you should expect them to add most of their value up-front—that’s normal.
- Many advisors want options they can exercise immediately—that’s fine.
- If your company hasn’t raised a Series A, increase the advisor’s equity by roughly 30%-50% to account for dilution from seed investors, Series A investors, option pools, swimming pools, and the like.
Finally, there is a beauty to paying in equity rather than an equivalent amount of cash. If you pay for a service in cash and you want that service again, you have to pay again. If you pay in equity, you pay once and keep getting served ad infinitum. Equity is the gift that keeps on giving. Your shareholders own you, but you also own them.
8. What are advisory shares?
Advisory shares are normal common stock. There is no legal concept of ‘advisory shares’. The Supreme Court has never heard a case regarding advisory shares. Chief Justice Roberts doesn’t give a shit about advisory shares.
9. Why should I pay advisors?
“Make sure that, for the people that count to you, you count to them.”
If someone helps your company succeed, it is only fair to share that success with them. If you want to do repeat business with people, you need to treat them right the first time around.
Equity also keeps advisors on the hook: you can go back to them again and again for help. If they were helpful once, they can probably be helpful again. And people with a financial interest in your future tend to return your calls.
Equity also incents advisors to keep working for you in the background whether or not you ask them to. They’ll bring you leads for customers, employees, and investors.
If you’re an advisor, don’t do it for the money. The opportunity cost is probably too high. You want to get paid so (1) you can own a little piece of the company in case it happens to be the next Google and (2) so the company signals that it values your time and contribution.
10. When do advisors get terminated?
Advisors can get terminated when they don’t add value at the level they originally agreed to. They can also get terminated if the company is “reset”, e.g.
- You hired a video game expert because you were building a video game but now you’re building a photo sharing site. The company has left the line of business where the advisor added value.
- A naive entrepreneur hires the wrong business advisor and a major new investor asks the entrepreneur to clean up the dead wood.
- The company is acquired, recapitalized, or otherwise restructured and the advisors are no longer useful or desired.
11. Should I give advisory shares to my investors?
“Board members and (good) investors are always de facto advisors.”
Angels or seed investors may ask for advisory shares. They might argue that they will be more helpful than the other investors, so they should get advisory shares.
But every investor thinks he will add more value than the other investors. We would like to propose a shareholder’s code of conduct: if you think you’re doing too much, you’re probably just doing your share.
So, how do you decide whether you should give advisory shares to an investor?
First, determine how many shares you would give him if he were just an advisor. Then subtract the number of shares he is buying with his investment. If the balance is significant, say, more than 50% of the shares he is buying, give him the balance in advisory shares. If the balance is under 25%, the additional shares won’t really matter to the investor and they aren’t worth the trouble of trying to justify the advisory shares to the other investors.
(This is why you never give advisory shares to venture capitalists nor do they ask for them: the balance for VCs is zero since they are buying so much of the company anyway.)
If the balance is not significant, you should just say no:
“All of our investors will be advising the company. That’s what good investors do. If I gave you advisory shares, I would have to give them to all the investors. And that wouldn’t make any sense—our valuation already takes the investor’s value-add into account.”
But if the balance is significant, you need an argument that makes sense to the other investors or they will also ask for advisory shares and lower your effective valuation:
“We want to hire him as an advisor. Fortunately, we don’t have to give him all the shares for free because he’s also going to invest as much as he can.”
You have to be able to convince the other investors—that’s the test. Or you can just “burn the boats at the shore” and give the advisory shares to the investor with the agreement that he will invest a minimum amount in the financing.