“There never is a good time for tough decisions. There will always be an election or something else. You have to pick courage and do it. Governance is about taking tough, even unpopular, decisions.” — Jairam Ramesh
An important step in startups is the establishment of corporate governance bodies such as a Board of Directors. However, not everything is rosy. Let’s remember the case of Twitter where two well-known Venture Capital investors who initially invested in Twitter such as Fred Wilson of Union Square Ventures and Bijan Sabet of Spark Capital resigned from the Board of Directors as other members began to isolate them as political revenge when Jack Dorsey returned to the company after being removed as CEO. This leads us to think about what the responsibility of a board of directors is and when it is better to have an advisory board.
The board of directors is a corporate governance body that controls the organization, aims to look after the interests of all investors and focuses primarily on strategic decisions. In doing so, they acquire fiduciary responsibility for which they may face legal charges in cases of malpractice.
The advisory board differs in that it is an informal committee without legal responsibilities and without voting rights that contributes specific knowledge and business networks to the organization. It is usually formed by the CEO for the benefit of the organization and himself. Specifically, some differences are as follows:
- The board of directors has a fiduciary responsibility to the advisory board member, not to the board of directors.
- Board of directors is governed by the bylaws and the other is governed by what it says is CEO.
- Board of directors is formal and inflexible, the other informal and flexible
- Board of directors represents interests and the one of advisors provides knowledge.
Considering these differences, why should a startup have a Board of Advisors?
1. The advisory board provides objective recommendations by discussing strategic, managerial, commercial and operational issues of the startup without restrictions.
2. Sometimes they are just as good or even more experienced than the board members, so they could potentially become another board member in the future.
Given their experience and business background they give credibility and reputation to the startup.
Once the entrepreneur is convinced to have an advisory board, then the question is who should be on the advisory board?
Ideally it should be inclusive, diverse and have the right number of members, a number that the entrepreneur is capable of depending on the stage he/she is in. In the beginning it could be a group of three to five people.
The main characteristics of the advisor will be the following:
1. People with an independent line of thinking.
2. Technical expertise
3. Connections relevant to the strategy and development of the startup.
Willingness to share
Many entrepreneurs may wonder when the best time is to form an advisory board. If you can create it from the beginning, it would be the most appropriate. However, if not possible, when you are crossing a stage of development and rapid growth is an appropriate time to establish it. (DLA Piper).
The conformation is very simple if it is from the beginning, the CEO is the one who makes the determination, without the need to ask someone else. If the startup is in an advanced stage of development and already has a board of directors, then the board will have to authorize through an official resolution the creation of an advisory board.
It is advisable in all cases to sign an advisory board agreement. This contains the roles and responsibilities, confidentiality and invention assignment.
In the beginning of the startup the participation of the advisors is usually pro-bono, considering that it is a win-win for both, because for these advisors it also represents an opportunity to grow in their experience. However, since it entails responsibilities and time that they will not dedicate to other professional activities, they usually have a compensation. This compensation may range from 0.25% to 1% of the fully diluted capitalization of the company, with a monthly vesting, over a period of one to three years.
Corporate governance in a startup is fundamental. Start with an advisory board that you can later convert into a board of directors. Being linked to experienced people with extensive business networks will give you great value. Not necessarily a high-profile person such as an influencer will be the right advisor. People may have a well-known name, but their renown does not justify the knowledge and operational value they can offer. So, don’t overestimate yourself and form your league of justice.
Hector Shibata Salazar, adjunct Professor at EGADE Business School and Director of Investments and Portfolio at AC Ventures Fund
Ana Maury Aguilar, VC Investor at AC Ventures
ACV is an international Corporate Venture Capital (CVC) fund investing globally in Startups & VC funds.
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