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Advisory Shares

What are Advisory Shares?

Advisory shares are a type of stock option given to company advisors, typically in startup companies, as a form of non-cash compensation in exchange for their expertise and guidance. These shares serve as financial rewards and incentives for advisors to contribute to the company's long-term success, offering them a stake in the company's future. Advisory shares differ from regular shares as they are non-qualified stock options, not available on public markets, and are not incentive stock options given to employees.

Allocating Shares to Advisors

When allocating advisory shares, consider the following to ensure effectiveness and fairness:

  • Advisor's Role and Contribution: Reflects the expected impact and involvement of the advisor.
  • Company's Development Stage: Earlier stages might offer more significant equity percentages due to higher risks.
  • Vesting Conditions: Commonly include time-based or performance-based criteria to ensure continued advisor engagement.
  • Tax Implications: Important for both the advisor and the company, especially concerning the timing and method of taxation.

Startups must balance the equity given to advisors to avoid excessive dilution while ensuring compensation is attractive enough to secure high-quality advice.

Advisory Share Option Pools

An advisory share option pool is set aside to compensate multiple advisors. Typically, this pool accounts for up to 5% of a startup's equity, distributed according to the advisor's role and the company's maturity. These pools are particularly useful for startups looking to preserve cash while leveraging the advisors' network and expertise.

Key considerations for advisory share option pools include:

  • Equity Allocation: Generally ranges from 0.25% to 1% per advisor, based on their expected contribution.
  • Vesting Schedules: Often structured without cliffs to immediately align advisors’ interests with company performance.

While beneficial, the management of these pools requires careful planning to avoid future complications such as significant dilution or disputes over equity value.

Valuing Advisory Share Options

Valuing advisory shares involves assessing:

  • Advisor Impact: The potential contribution of the advisor to the company's growth and success.
  • Stage of Company: Earlier-stage companies might provide higher equity stakes to offset higher risks.
  • Market Conditions: External factors that might influence the company's valuation and, consequently, the perceived value of advisory shares.

Accurate valuation is crucial for maintaining fairness in compensation and ensuring that both parties feel the terms of the agreement are equitable.

Understanding Vesting of Advisory Shares

Vesting terms for advisory shares dictate when advisors can claim ownership of equity. Common vesting schedules include:

  • Time-Based Vesting: Advisors gain equity over a set period, promoting long-term engagement.
  • Milestone-Based Vesting: Ties equity compensation to the achievement of specific goals, aligning advisors’ efforts with critical business outcomes.
  • Hybrid Vesting: Combines time and performance milestones, providing flexibility and performance incentives.

Transparent vesting conditions help manage expectations and ensure advisors are motivated to contribute effectively over their engagement period.

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