Accelerated vesting upon termination is a provision that enables an employee to have quicker access to restricted company shares or stock options provided as an incentive upon termination of employment upon certain occurrences despite the provision of the vesting schedule.
As a result of this clause, the employee whose contract or employment is terminated gets the monetary gains from the stock options considerably sooner than the vesting schedule will generally provide. In this article, we’ll explore all the aspects of accelerated vesting upon termination, identifying several factors associated with the concept, pros and cons, and best practices.
Understanding the Concept of Accelerated Vesting upon Termination
When an employee’s employment is terminated, especially in situations like layoffs or company acquisitions, accelerated vesting provisions are often implemented to provide financial protection or compensation to the departing employee. Instead of waiting for their shares or options to vest over a predetermined period, the employee receives full or partial ownership of the unvested portion.
The exact terms and conditions of accelerated vesting upon termination vary widely based on the company’s policies, employment agreements, and equity compensation plans. Some plans may provide for full acceleration, granting immediate ownership of all unvested shares or options, while others may offer partial acceleration, vesting a percentage of the remaining shares or options.
We cannot talk about accelerated vesting without understanding vesting and vesting schedules. Both concepts give an idea of how accelerated vesting upon termination occurs.
What is Vesting and What Does the Vesting Schedule Mean?
Vesting refers to the process by which an individual gains ownership rights or entitlement to certain assets or benefits over time. It is commonly associated with employee stock options, retirement plans, and other incentive compensation programs.
On the other hand, a vesting schedule outlines the specific timeline or conditions under which an individual’s ownership or rights gradually accrue or “vest” over a predetermined period. The schedule sets forth the criteria that must be met for an individual to become fully vested in their benefits or assets.
In the context of employee stock options or equity grants, a vesting schedule typically stipulates that an employee will not have immediate access to the full value of their awarded shares. Instead, the shares vest over a specified period, often subject to certain conditions such as continuous employment or the achievement of performance goals.
What are the Kinds of Vesting?
Cliff Vesting
Under a cliff vesting schedule, an employee becomes fully vested in a specific benefit or asset after a set period, often called the vesting cliff. For example, if the cliff period is four years, the employee gains ownership rights or benefits after completing four years of service. They may not receive any vesting if they leave before the cliff period.
Graded Vesting
Graded or graduated vesting involves the gradual accrual of ownership or benefits over a series of intervals. For instance, a standard graded vesting schedule is the “25% per year” approach, where employees become vested in 25% of their benefits or assets annually over four years. After the final interval, they become fully vested..
Immediate Vesting
Immediate vesting allows employees to gain full ownership or benefits immediately upon receiving them. This type of vesting schedule is less common for stock options or long-term incentives, but it can be found in certain retirement plans or employer contributions.
Reverse Vesting
Reverse vesting is often used in situations involving startup founders or key individuals in the company. It involves gradually transferring ownership from the employee to the company over a specified period. The purpose is to ensure that the company can reclaim the shares or assets if the employee leaves the organization before the completion of the vesting period.
Performance-Based Vesting
Sometimes, vesting may be contingent upon achieving specific performance goals or milestones. This approach is often used to align incentives with company performance. For example, employees may become vested in their benefits or assets only if the company achieves specific financial targets or milestones.
With accelerated vesting, an employee is technically bypassing regular vesting schedules if activated. There are many reasons why accelerated vesting may be initiated upon the termination of your employment or contract. Let’s consider some of them.
Reasons Accelerated Vesting Upon Termination Will be Initiated
The rationale behind accelerated vesting upon termination is to provide financial protection or compensation to employees who experience job loss or a significant change in their employment status. It is designed to offer a degree of fairness and recognition for their contributions to the organization, even if their employment ends before the completion of the original vesting schedule.
Here are some key reasons behind providing accelerated vesting upon termination:
Facilitating Retention During Company Changes
Accelerated vesting can be adopted by an employer as an incentive to make employees stay with the company, knowing that they will receive some level of ownership or benefits even if their employment is terminated. It helps foster a sense of loyalty and commitment to the organization, as employees understand that their efforts will be rewarded even in the event of unexpected job loss.
Incentivizing Employee Loyalty
Employers explore several ways to acknowledge and reward employee loyalty. One of the ways they do so is by accelerating employee vesting. Employees who have contributed to the company’s success during their tenure deserve recognition and compensation for their efforts. Accelerated vesting ensures that they receive a portion of their anticipated benefits, acknowledging their contributions and providing them with a sense of fairness.
Alleviating Financial Stress
Accelerated vesting helps alleviate some financial stress by providing employees with access to vested benefits or assets. It can help employees by potentially providing a cushion for their immediate financial needs.
Talent Attraction and Retention
Offering accelerated vesting upon termination can also serve as a competitive advantage in attracting and retaining top talent. Candidates may be more inclined to join a company that offers such provisions, as it demonstrates the organization’s commitment to employee well-being and recognition.
Employee Relations and Positive Reputation
Implementing accelerated vesting upon termination can contribute to positive employee relations and a favorable company reputation. It shows that the organization values its employees and strives to treat them fairly, even in challenging circumstances.
Accelerated vesting upon termination is triggered for a couple of reasons. Let’s explore some of them.
Common Triggers of Accelerated Vesting Upon Termination
It is important to note that specific triggers for accelerated vesting upon termination vary from company to company. The following are some common events that may lead to accelerated vesting:
- Termination Without Cause
- Change of control or acquisition
- Retirement or disability
- Death
In some instances, accelerated vesting may be contingent upon achieving specific performance targets or milestones. If the company or individual meets or exceeds predetermined performance criteria, vesting may be accelerated as a reward for their exceptional performance.
Furthermore, some equity grants are affected by accelerated vesting upon termination. The types of equity grants affected by accelerated vesting depend on the terms and conditions specified in the grant agreements and company policies.
What are the Types of Equity Grants Affected by Accelerated Vesting?
- Stock Options: when accelerated vesting is triggered, employees will be able to exercise their share options and gain ownership of their shares before the original vesting schedule is completed
- Restricted Stock Awards (RSAs): RSAs are grants of actual company shares given to employees, subject to certain restrictions.
- Restricted Stock Units (RSUs): RSUs represent a promise to deliver company shares to employees at a future date. RSUs typically vest over a specific period, and upon vesting, employees receive the underlying shares.
- Performance-Based Equity: Performance-based equity grants, such as performance stock units (PSUs) or performance stock awards (PSAs), tie the vesting of shares to the achievement of specific performance goals or milestones. If the performance targets are met or exceeded, accelerated vesting may be triggered, allowing employees to gain ownership of the shares before the original vesting schedule.
How is Accelerated Vesting Calculated?
Due to how delicate the issue of accelerated vesting upon termination is, it requires a careful process to determine its extent and timing. The following are some of the ways accelerated vesting is calculated and determined:
Full acceleration:
In this scenario, the employee’s equity or stock options become fully vested all at once, usually triggered by a specific event such as a change of control (e.g., acquisition or merger) or termination without cause. Full acceleration means the employee immediately gains ownership of the entire equity stake or stock options without any further vesting requirements or waiting period.
Partial acceleration:
With partial acceleration, only a portion of the equity or stock options become vested ahead of schedule, while the remaining portion follows the original vesting schedule. This method is often used to provide some immediate benefits to the employee while retaining some motivation for continued employment or performance. The proportion of accelerated vesting can vary based on the terms outlined in the equity compensation plan or agreement.
Additionally, accelerated vesting can be determined based on certain performance indicators and a couple of other indicators. These include:
- Performance-based vesting
- Milestone-based vesting
- Good standing or continued employment-based vesting
Pros and Cons of Accelerated Vesting Upon Termination
Accelerated vesting upon termination can have both advantages and disadvantages for both employees and employers. Here’s an evaluation of the pros and cons:
| Pros | Cons |
| Immediate ownership for employees instead of waiting for the vesting schedule | Reduced long-term potential |
| Accelerated vesting can serve as a retention tool for employers | It can lead to increased equity dilution for the company |
| It helps to maintain positive employee relations, especially during circumstances like layoffs or changes in control | Higher tax liabilities for employees |
| Provision of liquidity and financial flexibility for employees | Depending on the situation, it could negatively impact employee’s motivation and desire to stay |
| Mitigates the impact of job loss on employees | Serious financial implications for companies if there are a large number of eligible people |
Final Thoughts
The impact of accelerated vesting on overall company dynamics depends on various factors, including the size of the company, its growth stage, and the specific terms of the accelerated vesting arrangement. It’s essential for companies to carefully consider the potential implications on equity dilution, financial stability, and employee motivation before implementing accelerated vesting policies. Finally, balancing the needs and motivations of employees and the company is crucial to maintaining a healthy and productive work environment.