Stock vesting is a legal and risk management tool by which a person gradually earns the right to keep their equity in a company. Equity typically “vests” over a set time period, known as a “vesting schedule,” or upon meeting other contractually defined criteria. The company is entitled by contract to buy back or reclaim unearned or “unvested” stock.
Implementing stock vesting with all service providers—founders, directors, employees, consultants, and advisors—is strongly recommended. Investors often use stock vesting to motivate company founders to stay and build value post-investment. Startup founders use it to ensure co-founders’ commitment and reward them for their efforts in building the company. Companies use it to retain dedicated employees and incentivize long-term goal achievement.
Historical practice and labor market competition have resulted in a standardized vesting schedule for startup employees. This typically spans four years, with 25% of equity vesting at a one-year cliff and the rest vesting monthly in equal amounts thereafter. Advisors usually have a two-year vesting schedule, with a three- or six-month cliff becoming increasingly common, and the remainder vesting monthly in equal amounts. Consultant vesting schedules are often based on deliverables and performance and can vary significantly. For efficiency, startups should apply standard vesting schedules consistently, but they can be adjusted to suit specific needs and circumstances.
The importance of stock vesting can be demonstrated with a hypothetical four-person founding team, each holding 25% of the company’s stock. Without a vesting schedule, a founder could leave at any time, retaining all their shares without further contributing to the company’s growth. If one founder leaves after six months, they would still retain 25% of the company’s stock, reaping all of the potential benefits with none of the work. This is unfair to the remaining founders and new hires who would continue to build the company. However, if a typical four-year vesting schedule with a one-year cliff had been applied, a founder leaving after six months would keep no shares, while the other three founders’ ownership would increase to 33% each. If any of them leave later, they would only retain the shares they’ve earned through their continuing work and tenure with the company.