Vested Shares: Everything You Need to Know
Vested shares are normally given by employers as a retirement plan for employees. 3 min read
2. Forms of Vesting
3. Disadvantages of Vesting
4. Accelerated Vesting
Vested shares are rights to future payments, asset, or benefit. Vested shares are normally given by employers as a retirement plan for employees. Vesting is a term for what employers use to encourage employees to stick with the company. Popular types of vesting include stock bonuses and contribution to a person's 401(k) plan.
Advantages of Vesting
Many venture capital investors insist that company founders should vest their shares as a condition for funding the company. This may seem odd to some founders but vesting has a number of benefits:
- Rewarding Founders
The company founders would be rewarded if the business becomes a success.
- Setting an Example
Vesting founder shares sets a good example to employees who may not understand why they need to have vested shares.
- Cash Flow Benefits
Vesting may reduce the amount of money paid out by the company as compensation. This may reduce financial burden on cash-strapped startups.
- Employee Retention
Vesting can encourage employees to stick with a company. This typically reduces the costs associated with hiring and training new employees.
Forms of Vesting
Vesting takes different forms depending on the situation and policies of a company:
- Wills and Bequests
Some wills dictate a waiting period to finalize the transfer of benefits following the death of the testator. Vesting in such cases may reduce double taxation, for example, if the heir died in the same accident as the testator. It may also reduce the chances of contesting the will.
- Issuing Common Stock
Startup companies may offer common stock to employees, suppliers, and board members as part of compensation. The benefits are normally frozen until the people involved have worked with the startup for a number of years, typically three to five years. Some startups even insist that employees should stay with the company through its sale or IPO as a condition for getting the vested benefits.
- Contributions to the 401(k) Plan
Some employers make contracts that only entitle employees to the employer's contribution to their 401(k) plans after staying with the company for specific time period. In some cases, the employee is gradually given more benefits each year he stays with the company.
- Vesting Stock Bonuses
This is one of the most common forms of vesting. A fixed or variable number of restricted stock units each year he stays with the company.
- Founder Vesting
Founders usually get better vesting deals than regular employees of startups. It is not uncommon for a founder to get vesting credit from the time the founder conceived the idea of a startup.
Disadvantages of Vesting
- Complicated Vesting Plans
Some startups have drafted complicated terms which are not transparent with employees. For example, Skype included a clause in employee contracts that required employees to stay with the company up to its sale or IPO for them to get the benefits. Those who left before Skype's 2011 takeover by Microsoft missed out on the benefits, much to their surprise.
- The Risk of Employees Shunning a Company
Instead of being a tool for employee attraction and retention, some vesting policies may also end up achieving the exact opposite. For example, if a company sets a compulsory 7-year vesting period, talented job seekers may shun the company and instead seek out companies that have waiting periods of three to five years.
- Discouraging Buyers
Some vesting terms may discourage companies from acquiring certain startups. This is especially the case with startups with generous vesting terms for employees and founders. Terms that may discourage companies from acquiring a startup include acceleration of the vesting benefits when the startup gets bought by another company. New buyers might not want to spend extra money on the vesting benefits and may opt for startups with more restrictive vesting policies.
Some companies offer employees contracts to accelerate the vesting benefits when there is a merger or the company gets bought by another. The goal is to show fairness to employees who did not sign up to work for the acquiring company. For some of these vesting plans to become activated, the employee in question must have been given a lesser job after the acquisition or merger.
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