What does “4 years vesting with 1 year cliff” mean?

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    Why are we answering simple questions in such a lengthy and drawn out manner?

    To put it in terms as such anyone can understand,

    1 year cliff is your 1 year probationary period. If you last one year you receive the first part of your shares. Years 2-4 (granted you remain with the company), shares are divided equally over each remaining period. Hope this was simple enough for anyone out there.

    Best way to explain it would be through an example:



    Let’s imagine you have just hired a new employee and you want to give them 2% equity stake in your startup. The problem is that you are afraid the employee might leave and take that equity with them. So how can you protect your equity from this?



    Simply with the vesting and cliff cause! Within an employee’s contract, you can have a vesting and cliff cause that they will need to sign.

    You both agree to 4 years vesting period with a 1-year cliff. That means that the employee will now have to work 4 years before they can get all of the equity that was promised to them.

    A 1-year cliff is a form of ‘probation’ if you will. They have to at least work one whole year before they can start to earn their equity. After that, the employee will receive ¼ of the equity promised each year. At the end of the fourth year of receiving equity they will have 100% of the equity promised.

    So going back to our employee, every year following the cliff period, they would get 0.5% equity stake in the company. That is until the end of the fourth year of receiving equity (still after the cliff year), where they will have the complete 2%.

    How does this benefit startups?



    Well, the benefit here is that–thanks to the cliff and vesting clause–people (whether they be employees or founders) will have to work for their equity. That means that they will need to be committed to the startup.

    If someone leaves before their vesting years are done, they forfeit the rest of the equity that was promised!

    I hope this helps you! If you want to make sure your startup is legally secured, book a free startup legal session

    today. We specialise in equity issues for startups – so you’re in good hands!

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    It means that you have been promised a chunk of stock options (or stock), but you don’t receive it all at once. Instead, you receive it over a four year period. At the end of the first year, you receive the first 1/4 (called the “cliff”, because before 1 year, you get nothing if you leave), and then after that you get the stock piecemeal (“vesting”) until 4 years are reached.

    The rate at which the stock vests after the cliff varies by stock plan, but is either monthly (every 1 month), quarterly (every 3 months), semianually (every 6 months), or rarely these days, annually (every 12 months).

    Typically, when you receive equity in a company as an employee (e.g. options or restricted stock), you do not immediately own the equity you are granted.

    To your question, “the 4 year vesting” part of the statement means that you will vest 25% equity each year over a period of four years. The “1 year cliff” part means that in the first year, you will not vest out any of your equity in the first year unless you remain involved/employed for at least one full year.

    To break this down more visually, here is how the equity ownership would vest if you were granted 48,000 shares, assuming monthly vesting after year one (which could also be quarterly, bi-annually or annually):

    Year 1:

    • 12,000 of the shares would vest at the end of the full first year, with no vesting prior to the 1 year mark

    Year 2–4:

    • 1,000 of the shares would vest each month starting in month 13.

    Why do companies issue equity in such a way? Simply put, vesting protects the company in two ways: (a) it ensures that key team members stick around for a certain amount of time to earn the full amount of their equity grant and (b) if a team member does in fact depart earlier than expected, unvested equity reverts back to the company and can be used to incentivize a new team member being brought on board to replace the person who left.

    Here are some additional resources that may be helpful:

    Disclaimer:

    This answer is not a substitute for professional legal advice. This answer does not create an attorney-client relationship, nor is it a solicitation to offer legal advice. Seek the advice of a licensed attorney in the appropriate jurisdiction before taking any action that may affect your rights.

    Typical equity vesting schedule at start ups is ”1 year cliff with a 4 year vesting”. A “1 year cliff” implies that before the 1st year none of the equity vests. At the 1st year anniversary, 25% of the equity vests. Henceforth, if you were granted 5,000 shares, at the 1st year of anniversary you get 1,250 shares. If you quit or are fired before the 1 year mark you get nothing. After the one year mark, vesting is monthly i.e. 1/48th ( 4 years *12 months) of the total granted shares vest.i.e. 1/48*5000 = 104.17 shares.

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    When you receive an equity grant as an employee (RSUs, stock options, restricted stock, etc.), you most likely will not own the shares as soon as you join the company. They will “vest” over time, meaning that you will earn them over a set period of time (called the “Vesting Period”). If you leave the company before the end of the Vesting Period, you will not earn the full number of shares.

    The most common vesting period = “Four Year Vesting With a One Year Cliff”: (1) After one full year, 1/4 of the shares will vest. This is called a “One Year Cliff.” (2) After one full year, 1/48 of the total grant of shares will vest each month.

    I’ve probably read about a thousand employee stock option agreements over the years and yours would be the first of that kind. There is nothing improper about doing that but it doesn’t seem very competitive in a job market like the one here in Silicon Valley.

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    Vesting means different things for different types of equity compensation.

    The vesting schedule you are describing is the most common schedule for STOCK OPTIONS granted by VC-bascked startups in the Silicon Valley (It is not always the most common schedule in other locations or in companies in different stages of growth or funding sources.

    It should be noted that this is NOT the most common schedule for RSUs (typically three years, often with a 3 year cliff vest).

    so…

    First, “cliff” is poor wording. Technically “cliff vesting refers to ALL of the grant, but many lawyers and companies use this term to refer to the first vesting event in a grant with ratable vesting.

    In this poorly worded description, cliff after the first year refers to a percentage of the grant equal to one year of the total vesting schedule. (4 years=25%. 3 years = 33.3%, 5 years = 20% etc.).

    The rest of the grant (in this case 75%) will vest ratably on a more frequent basis over the remainder of the vesting schedule (in this case 3 years). This part of the schedule should be clearly defined in your grant agreement. If it isn’t, ask your company for a new, clearer, agreement.

    The most common iteration from Silicon Valley, VC-backed start-ups would have vesting occurring monthly over the final 36 months.

    IMPORTANT: Vesting on a stock option simply means that you can exercise the options to receive the underlying shares without them being subject to a substantial risk of forfeiture. You have to pay for that exercise. You have to pay taxes on that exercise (unless you have Incentive Stock Options / ISOs).

    You do not “get” anything when stock options vest accept for the right to exercise.

    If you leave before the stock options are vested you will nearly always forfiet them back to the company. If you leave when you have vested shares you will nearly always have a post-termination grace period during which you can exercise your vested stock options. If you choose not (or forget) to exercise your vested options during the grace period they will also be forfeited back to the company with no payment or shares to you.

    Thanks for the A2A!

    Brad Feld and Jason Mendelson in their book Venture Deals claim that this 4 years vesting with 1 year cliff is the tech standard for vesting shares in a company.

    The premise is that the larger portion of their equity(say 25%) is given in bulk at the end of the first year. This is the benefit of staying through a growth period and more importantly meant to not tie up a company’s equity from the granting of equity.

    While a lot of the answers are very good at explaining it, I’d prefer to focus on the reason “Why” this is needed.

    Let’s say I start a company with you. I’m going to take 50% and give you 50%. In 3 months, you quit. You still own all of the shares that define 50% of the company. Now, I have to still consult with you and get 1% vote from you to make any official decision. While this is a larger example, I refer to this as the Facebook principle. When you have an equity owner in a company that goes rogue or off-the-charts, it creates some complications in getting things done. It’s also a waste of equity. I could be offering more equity to attract more talent into my company.

    The “cliff” is kind of the point of no-return in my book. That’s when you receive a larger chunk (than a typical monthly amount vested) and then get rewarded each monthly with vested stock in what you’re doing. Up until that point, there’s still a chance to leave and not really lose what you’re working for. Once you hit the cliff, in my opinion, you stick it out and follow through.

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