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Moisan Legal P.C. Blog

Tuesday, October 20, 2015

What's a Vesting Schedule and Why Do I Need One?

 

Imagine this scenario, you and your friend launch a startup company and both of you split the equity 50–50. Your startup is growing fast and now you have investors that want to give you money. All of a sudden, your partner that owns 50% decides to leave the company. Without a vesting schedule, this situation could be a disaster because his stock would be totally vested and he would own 50% even though he just left the company at such an early stage. Since it would demotivate you, and turn away potential investors for the future, it’s an easy reason to close up shop.

A vesting schedule helps ensure that the situation above does not happen to you. Here’s how a vesting schedule works. If you’re giving away equity, the person doesn’t get the entire amount of equity right away. It vests over a period of typically 2–4 years. In the above described situation, if the founders were on a vesting schedule and one of them left, they wouldn’t be able to leave with 50% of the company. When people are on a vesting schedule, it can be based on a time period or it can be based on milestones.

The point behind creating a vesting schedule is that you’re encouraging founders and employees to stay with the company for the long run. Employees are incentivized with a vesting schedule because they have to work for a specified time period or hit certain milestones before their stock options completely vest. Having a proper vesting schedule is always recommended in terms of raising outside capital because it decreases the likelihood that your team will fall apart.

The typical vesting schedule is a four year vesting with a one year cliff. This means that your stock would completely vest after four years. The one year cliff means 1/4 of the stock would vest after your first year. Once 1/4 of the stock vests after the first year, the stock would begin to vest every month, every three months or six months at a smaller percentage. If you leave before the one year period, none of the stock vests because you didn’t reach the cliff. Although this is the typical vesting schedule, it does not mean that this would be the best option for every startup.

All in all, if you’re planning on launching a startup a vesting schedule is almost a necessity. It ensures that everyone on your team stays motivated for the bigger picture. When you’re creating one, you should definitely consult with an attorney to figure out the proper vesting schedule for your team.


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