Note: This post originally appeared as part of the Advisory 101 series in Entrepreneur Magazine
A few months ago we expanded FounderDating – a people network for entrepreneurs – to connect entrepreneurs and advisors. My biggest shock while we did customer development was the number of entrepreneurs and advisors who are working together “informally.” This is honestly the biggest mistake you can make in an advisor-advisee relationship. Once in a blue moon, everything might work out well but more often than not, your relationship will fizzle or be inconsistent at best if you don’t have an advisor agreement in place. If you’ve gotten by without establishing formal relationships, you’ve been lucky. But, here’s how to do it right:
Wait, what does “formalize” mean? Typically, after a few meetings and work together sessions you want to formalize your advisor-advisee relationship. That means signing an advisor agreement: a legal document that briefly outlines the advisor’s commitment to your company and gives him or her a small amount of equity. It’s a short document, and there are several templates on the web. (Here’s one we created with the blessing of two leading law firms Orrick and Gunderson Dettmer). Don’t try to recreate the wheel with this agreement. I would suggest using our template or another one that has been blessed. You don’t need to find a lawyer to do a new one for you.
Why is an advisor agreement so important? It might seem like trivial paperwork but without one you’ll often lose an advisor’s attention to other projects — and at worst you can sour your relationship with someone who could have been a major asset.
- Valuing time. People who you want to advise you are, by nature, busy people with a lot of potential projects to work on. Time is their most precious commodity. While advisors aren’t likely to get rich off a small piece of equity (nor are they planning to), you need to show you value their time and knowledge. And that is exactly what an advisor agreement does. It appropriately prioritizes the work you’re doing together, so you won’t feel like you’re pestering him or her for favors.
- Aligning incentives. For much the same reason that you give employees a piece of equity, you want to give an advisor the same consideration. As Fred Wilson from Union Square Ventures says employee equity “reinforces that everyone is on the team, everyone is sharing in the gains and everyone is a shareholder.” Same goes for advisors. It ensures you’re both working towards the same long-term goal and understand the company vision.
When should I formalize? While we can’t stress enough the importance of this process, bringing up legal documents on your “first date” is a pretty awkward wooing strategy. While there’s no exact benchmark, the right moment usually comes along between your third and fifth meetings. Once it’s clear you want to keep working together, sign an agreement as soon as possible to ensure you’re both on the same page. Bringing it up too early can be a turn-off, but waiting too long can leave an advisor feeling like you’re not really invested.
Why can’t I give cash? Most companies are cash poor and equity rich in the first few years, so you’d be using your resources unproductively. Also, your advisor isn’t giving you hourly project-based work or deliverables that you’d normally pay cash for. An advisor is someone with a lot of expertise in an area where you need help, and they’re here to help you grow your company in the long term. Giving them equity much more accurately reflects the nature of this relationship.
How much equity should I give? Okay so you’ve found an advisor, you’re ready to sign an agreement and you’re willing to give some equity. Now how much should you give? The amount usually ranges from .2 to one percent, and it’s a good idea to consider the size and growth of your company and the advisor’s experience (both as a professional and specifically as an advisor). This chart helps break down some average ranges for you to consider.
Advisors are typically busy people. If you’ve found one who really has the skills to help you and that you mesh with put your affiliation on paper. Use the opportunity to align your perspectives and long-term goals for your company. Remember, your advisor isn’t here for the money but to help you create your vision. Establishing him or her as a formal part of your team is a critical to making the relationship work on both sides.
What are your best tips for working with advisors? Add them in the comments section below.