Vesting is a crucial concept in the world of venture capital often included in shareholders' agreements and employee participation programmes that aims to align the interests of investors on the one side and founders and other key team members (such as employees) on the other side. In this article, we will explain the key components of vesting such as "good leaver", "bad leaver", "cliff" and "acceleration."
1. Vesting basics: Vesting refers to the process by which founders or key team members earn ownership of their shares in a start-up over a specified period, typically several years, to stay committed to the start-up for such a long term.
At least in Austria, founder vesting is often set up as "reverse vesting" because founders already have their shares when vesting provisions are introduced. In contrast to standard vesting, individuals under reverse vesting have their entire shares upfront, but they must gradually return a portion if a "leaver event" occurs within a specified timeframe. The sooner such an event happens, the greater the proportion of "unvested" shares that must be surrendered.
2. Vesting schedule: The vesting process usually follows a schedule, often spanning four years, with for example a one-year cliff. During the cliff period, no shares are vested. After the cliff, shares vest gradually, commonly on a monthly basis.
3. Leaver event: A "leaver event" refers to a situation that occurs when an individual under vesting provisions leaves the company before all their shares have fully vested in accordance with the vesting schedule. There are various things that can happen with such shares depending on the category of the leaver event. The specific terms and consequences of each leaver event are usually heavily negotiated and agreed in advance, and can vary widely from one company to another. Broadly, leaver events fall into two principal categories:
Good leaver: A "good leaver" is typically someone who leaves the company for valid reasons, such as resignation due to health issues or a family emergency. Good leavers may keep some or all of their vested shares, often calculated based on their time with the company.
Bad leaver: On the other hand, a "bad leaver" is someone who leaves the company for reasons that are not considered valid, like voluntarily quitting for a better job opportunity. Bad leavers often forfeit their unvested shares and may have to sell their vested shares at a reduced price.
Occasionally, a third category known as a "grey" leaver may also apply.
4. Acceleration: Acceleration clauses are provisions that can alter the vesting schedule under specific circumstances. For example, in an exit event (i.e. sale of the start-up), some or all of the unvested shares may accelerate, becoming immediately vested.
Why is vesting important?
Vesting plays a crucial role in protecting the interests of everyone involved in a start-up. Investors use it to ensure founders and key team members stay dedicated, especially during the early phases of the company. Similarly, those under vesting provisions (such as founders and key team members) have an interest in their co-founders and colleagues' commitment to the start-up since collective teamwork is essential for the company's growth.