What is the ideal Advisor Equity in startups?

Let’s say you find someone with a full-time job who is the best person to grow your startup. Your startup is at $50K annual revenue, and this guy says he can take it to $2M in 3 years.

How much equity should you offer him?

Someone recently asked me this question. Is a 5% stake fair or should it be 20%? Before offering advisory equity to anyone, founders must figure out how much time this advisor will spend with you. If it’s just a few hours a month, I suggest keeping it in low single digits (3% or fewer).

In our case, the advisor would spend 20–30 hours every week growing the company, basically 2,3 hours daily post-work and the entire weekend. It’s almost like a full-time job, and the equity share has to be higher.

To make it fair to both parties, my advice was:

1. Link it to a target revenue
2. Make it stock options over a 3-year vesting period

This can’t be ESOPs because a private company in India can’t issue ESOPs to consultants or advisors. But the company and the advisor can form a simple agreement that gives shares over a fixed period.

I suggested a 20% equity spread over 3 years linked to revenue. In case the startup doesn’t hit the revenue milestone, it delays the equity until the pre-agreed revenue milestone is achieved.

I also asked the advisor to join as a co-founder in 3 years assuming the revenue is $2–3M and he owns 20% equity. It will help the company to raise venturecapital and grow even more quickly.

This comes with the caveat that the startup is not paying any cash to the advisor. If the startup pays a small monthly retainer, then the equity percentage should be much lower. But I didn’t recommend it because the advisor already has a full-time job. He doesn’t need the money.

The goal should be to make it fair to both parties by aligning the incentives so that both the founder and the advisor get a big upside once the startup becomes successful.

Visa has twice the market share of Amex, yet Amex has double the revenue of Visa.

What is the secret of American Express and how is it different?

1) Amex has a closed loop system — where Amex controls each and every part of the transaction. It issues the cards, maintains the network, onboards each and every merchant individually and collects payments from cardholders.

2) Discount revenue from merchants and interest income is the main differentiator. Visa and Mastercard can’t earn interest income since they are just networks and not issuers.

3) While Amex earns from interest income, its real cash cow is merchant revenue (60%). Amex’s whole main strategy revolves around getting customers to spend on its cards.

4) Amex earns substantial revenues from annual fees and high-spending cardholders. Amex invests these revenues in incentive programs and offers for customers. This leads to higher revenues for merchants and higher transactions.

5) Compared to other card networks, it charges a higher MDR but merchants are fine with it since they get access to a very premium customer base.

6) Amex prioritizes merchants and builds many partnerships. One of its main partnerships is its co-branded card with Delta Airlines. Delta co-branded cards account for 9% of its global volumes and 21% of its loan portfolio.

Amex’s closed loop system, also has its advantages like growing slowly compared to other card networks but it ends up with more control over its merchants and bigger take rate on each transaction.

This is a great strategy that has been working out for Amex.