The Startup's Guide To Advisory Shares | Ledgy

If you manage your company's equity plan, you're likely to have had a conversation or three about advisory shares. How should advisors be compensated? Which advisors get an equity stake? And how much do they get?

When implemented correctly, advisory shares can be a great way to align advisors' expertise with your company mission. But a lack of good comparable data, and the bespoke nature of many advisor relationships, make it hard for founders and senior leaders to set robust benchmarks for advisory shares.

In this article you'll get accurate information on the kinds of equity stake you might need to consider for advisors, as well as recommendations to structure your advisory shares policy.

What are advisory shares?

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Advisory shares are shares, or share options, that companies grant to advisors. They are often granted alongside, or instead of, cash compensation.

Advisory shares are distinct from stock options granted to employees: for instance, they may have different vesting schedules. There are also certain types of employee stock option plan that are purpose-built for employees and which are not suitable for advisory shares.

Why are advisors important in tech companies?

Advisors can provide crucial support to entrepreneurs and businesses. Advisors have the arms-length objectivity to unblock decision-making on critical issues and provide counsel to founders juggling a thousand things at once.

The most impactful advisors bring a combination of industry experience, an impartial perspective, and top-level contacts to the startups they support. The relationship is more formal than that of a mentor, where the advice provided may be pro bono – which is why advisor compensation is such a hot topic!

Most companies have advisor relationships of some kind, and many scaleups go as far as setting up an advisory board to bring more expert opinions to the table.

But no advisor relationship is the same, and there are many types of advisor. Key factors that can change the kind of advice received might include the business function the advisor focuses on, or the frequency and intensity of the support provided. Each advisor's expertise is different, too: you might be And each of these factors can affect the advisor’s compensation, of course.

So let’s think about a framework to help structure these decisions from the company’s perspective.

How do companies issue advisory shares?

When setting up the equity allocation for advisory shares, it’s important to recognise that the setup for advisors tends to differ from that of an employee. In particular, the type of share scheme you choose is important.

Navigating share scheme types

The type of share scheme you choose for your advisory shares is important. For example, in the UK, growth shares are often a preferred option for advisors since holders of growth shares don’t need to be an employee of the company.

Growth shares are more tax-efficient than unapproved stock option schemes, potentially giving the advisor a better deal on their equity. In Germany, many advisors set up a separate entity to receive their shares as a workaround due to the relatively high tax burden incurred when individuals sell ESOP shares.

Alternatively, unapproved share schemes can also be an option for structuring your advisor’s equity, if you are looking to issue options without facing the administrative complexity of agreeing a valuation with the relevant tax authority, but they come with a high tax burden which must be communicated.

Remember: any decisions on share scheme types should be well communicated upfront with your potential advisor, so that they understand the associated tax implications.

Pros & cons of advisory shares

Advisor shares might be a great decision for your business. But there are always potential drawbacks to be mindful of. Here we'll sum up a couple of the pros and cons of distributing equity to advisors.

Pros

• Many of the best advisors are willing to work for equity only. Is your company earlier-stage and unable to offer top-of-market cash compensation? Some of the best advisors around are happy to exchange their time and guidance for stock options without expecting cash payments as well.
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• Advisors often need little introduction to how equity plans work. It's important to make sure you give your employees a thorough grounding in the basics of equity and stock options. But you're unlikely to need to spend the same time and effort with advisors, who have normally seen it and done it in startups before. They're ordinarily senior executives, and should be au fait with the ins and outs of startup equity.

Cons

• You risk reducing the amount of the company's total equity reserved for your permanent employees. Even if individual advisors are very important to guide businesses and executives, most founders would prefer to prioritise the employee stock option pool. Depending on whether advisory shares are drawn from the employee pool, allocating too many advisory shares may compromise the equity you can offer to employees further down the line.
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• Advisor relationships might be more prone to conflicts of interest. Many companies are eager to work with advisors that have worked for competitors in the past. While this experience can deliver real value for your business, be aware that advisors may have investments or holdings in many companies, and it's worth taking the time to understand whether any conflicts could emerge down the line.

Which advisors should get advisory shares?

Now, it might not make sense to give advisory shares to every advisor. Some advisors only work with a business for a very short time, while others might prefer cash compensation rather than an equity stake.

But it's still worth developing a structure that can guide you when you're scoping new advisory share agreements. At Ledgy we categorise advisor relationships into three groups:

• ‘Lighter touch’ advisors typically support the business on a less frequent basis. The support provided, while valuable, is not essential to the survival or success of the company.
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• For ‘strategic’ advisors, the time commitment increases overall. They have a regular cycle of interactions with the business, such as pre-scheduled weekly or monthly meetings. They may add value with commercial introductions to their network or agree to work on recruitment, depending on their skills and the business need.
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• ‘Core’ advisors often dedicate a significant proportion of their working week (5-10%) to the business. They are able to dive deep into the thorniest, most complex issues affecting the team and function they’re advising. The problems they’re addressing are critical to the health and success of the business (such as CEO advisory, or product advisory in a product-led business).

How much equity should you offer advisors?

Once you’ve decided to offer equity to an advisor, you’re quickly faced with a crucial question: how much equity should they get?

Allocations for different types of advisor

It’s normal for advisors to expect more equity at an early stage startup – the overall valuation is lower, and the venture itself is inevitably riskier. And, of course, sound advice can potentially have an even more transformative impact on the company.

We've created a rough framework for allocating equity to advisors based on the 'lighter touch', 'strategic' and 'core' definitions provided above:

By company stage

Looking at Ledgy's own platform data, we can see clear trends that emerge when we look at advisory shares distributed to companies at different stages:

It’s normal for advisors to expect more equity at an early stage startup – the overall valuation is lower, and the venture itself is inevitably riskier.

Our benchmarks suggest that high-impact advisors at early or seed stage companies can expect up to around 0.8% of fully diluted share capital. This is similar to a very senior new hire, which indicates how important great advisors can be to the health and success of the company.

What’s interesting is that these benchmarks have remained pretty stable since Orrick and the Founder Institute published their detailed study into this area a decade ago. They defined their categories of advisor slightly differently, but clearly these numbers have held weight for some time.

Ground rules for advisor equity

The decision to give equity to an advisor has long-term implications: after all, startup equity is a precious commodity. The risks include overcompensating advisors that add little value, or giving away too much equity as a whole, both of which can cause new problems down the line.

Some companies seeking venture capital are tempted to recruit high-profile advisors for the sake of an attractive pitch deck, who may not add significant value to the business. (20VC’s Harry Stebbings has some thoughts on this fundraising tactic based on his experiences!) Likewise, if a potential advisor is likely to add value for weeks or months, rather than years, they may be better positioned as a consultant or contractor, rather than a long-term strategic contributor.

Are you unsure what the collaboration might be like with your company advisors? Consider setting up a trial period where you can test drive the relationship and explore the value the advisor might add in a normal week or month. A trial helps both sides envisage the day-to-day reality of a potential collaboration.

Vesting for advisory shares

One similarity between advisors and employees is that advisors’ shares can also vest for the agreed duration of their advisorship, as recommended by Matt Cohen of Ripple Ventures. The vesting schedule should start as soon as the advisor relationship is agreed. Advisorships are often scoped as a two-year project, so the linear vesting process would take place across the duration of this period.

Here’s a rough template: if your startup advisor receives 0.1% (e.g. 10,000 shares when fully vested), and the duration of the agreement is 24 months, then the calculation is simply 10,000 shares / 24 months = 416 shares vesting per month.

This vesting schedule means that if the advisor relationship doesn't meet your expectations, you won't have issued a large number of shares or share options for advisory services that didn't move the needle for your business.

Key takeaways

In summary, there’s a lot to think about when offering equity compensation to advisors. Equity can be a powerful incentive, unlocking access to sought-after expertise that could be decisive for your company’s success. Nonetheless, we recommend thinking very carefully about the impact of each advisory agreement before giving out equity as compensation. After all, equity is precious.

For those advisors who are engaging with your company for the long term, and whose advice will be business-critical, the frameworks outlined here should give you some confidence that you're offering sensible equity within a structure that works for all parties. Your equity plan management will benefit as a result.

FAQs

Do advisors need cash compensation as well as advisor shares?

Not always – many experienced advisors are happy to consider working for equity only, exchanging their time and expertise for an ownership stake in the companies they advise.

Do advisors expect all their shares to be awarded up front?

Normally, advisory shares will vest just like ordinary employee stock options. However, the vesting schedule might be shorter, to reflect the fact that advisor relationships are designed to be shorter in duration than a typical employee's journey with the company.

Which share class should I use when granting advisory shares?

Advisor shares are usually common stock, similar to founder shares and employee stock options. Preferred shares should be reserved for investors who inject capital into the business, which is not conventionally done with advisors.

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