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Why Is 4-Year Stock Option Vesting Getting An Overhaul?

By Kaitlyn Knopp

Companies like Coinbase, Lyft and Stripe are turning over a new leaf when it comes to how they handle equity grants and vesting schedules: Instead of the standard four-year vesting equity grant for new hires, these companies are now offering one-year vesting.

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This could be the first step toward the four-year vesting cycle going the way of the dinosaur.

What’s happening and why are vesting options getting an overhaul now? What does this mean for both employees and employers?

Let’s take a deep dive into the why, as well as the pros and cons of one year equity grants.

A four-year vesting schedule is no longer the right fit as flexibility becomes the norm

Tech companies and their employees today are in an environment of extreme uncertainty. Last year, while some companies were doing pay cuts, others had to conserve cash, and in order to stay competitive, ended up handing out more equity.

In response to this uncertainty and a hypercompetitive market for talent, we’re now seeing a plethora of companies doing a one-year equity vest, instead of a four-year new hire grant with refreshes every year.

What are the pros and cons for employers?

One-year vesting gives employers the flexibility to reduce their equity dilution. Your company might still be able to meet the market price for talent, while saving 75 percent of equity compared to a four-year grant.

And one-year equity grants also give companies the flexibility to differentiate talent. The one-year grant lets employers evaluate talent year to year, and offer more shares based on performance without being locked into a four-year grant amount.

Pequity founder and CEO Kaitlyn Knopp
Pequity founder and CEO Kaitlyn Knopp

One possible downside for employers is that a one-year grant can sometimes cause confusion or unintended consequences during negotiations.

Equity is a mysterious vehicle for lots of people. Some candidates might balk at being offered a $50,000 (one-year) grant instead of a $200,000 (four-year) grant.

Your company’s offer might look less competitive compared to a higher-value grant from another company.

Companies need to be ready to communicate the total picture of their compensation packages and show how their offer adds value for the candidate.

Another challenge for employers is that a one-year grant creates less incentive for talent to stay with the company. Some candidates who are great negotiators might insist on a bigger first-year grant than the company offered, and then leave the company after one year.

Companies need to look at the tradeoffs of using equity grants to attract and retain talent. Flexibility works both ways.

What are the pros and cons for employees?

Employees who receive one-year equity grants get a few big upsides. The obvious one: They are no longer locked in for four years at the company before they can get their full equity compensation. This makes it easier to cash in your shares and move to a new job.

One-year grants can also make it easier for some employees who are not great interviewers or savvy negotiators to prove themselves on the job and get paid for performance. Get into the company, do great work in your first year on the job, and get rewarded with a larger grant the second year.

So what’s the possible downside of this new norm for employees?

For one, there’s less potential for exponential growth in the value of your shares. Before, if you were getting a four-year grant, if all went well and the company succeeded, the value of your equity grant could skyrocket over four years. With a one-year grant, as an employee you might be receiving only one-fourth of this potential exponential value.

The tech talent market is crazy right now, and one-year equity grants are likely to become the new standard. Companies want maximum flexibility for how they pay people, and employees want maximum flexibility for where and how they work. We might be heading toward a new model of equity vesting where tech employees have less of a chance of getting rich off of their stock options, but can command better compensation on a year-to-year basis based on their performance.


Kaitlyn Knopp is founder and CEO of Pequity, a platform focused on equitable compensation for companies like Instacart, ClearCo, Scale and more.  

 

Illustration: Dom Guzman

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