Change of Control Option Acceleration

I was recently in a board meeting and the topic of change of control stock option vesting acceleration came up.  I wrote a pretty long post on this topic already so won’t rehash the basics again here.  But the recent discussion confirmed my view that double trigger stock option vesting acceleration is very clunky, difficult for management teams to understand when it actually matters (at the time leading up to the change of control) and, in my view, should be used infrequently.  I am pretty sure that my view on this is not that widely shared.

Absent provisions in a stock option plan or stock option agreements issued under a plan, an employee’s unvested stock options will simply terminate on a change of control (this is the default plan rule).  This makes complete sense – once a company is sold in a change of control, the actual stock underlying the option is worthless going forward (in other words there is no longer a company to hold equity in as it was sold).

When a company is sold it is often very attractive for option holders to have their vesting accelerate immediately prior to the time of the change of control.  This allows the option holder to participate in the change of control exit to a greater equity extent assuming the options are in the money.  As pointed out in my prior post, option agreements may provide for single (just the change of control) or double trigger (change of control followed by termination of the employee following the change of control) vesting acceleration.

Implementing double trigger acceleration is often really confusing for the option holder (who likely worked hard to get the company sold).  Implementing single trigger is easy, understandable and better for the option holder (again, who likely contributed to getting the company sold!!).  So, I remain a big fan of single trigger.  Simple = more understandable = better for the management team.

Critically, change of control acceleration is NOT standard.  Often it will just apply to senior members of the company’s team.  If the board (who grants options) is concerned with inadvertent windfalls (like when a senior team member joins 6 months prior to an unpredicted change of control and has vesting acceleration), then there are very easy ways to avoid that.  Just have the single trigger acceleration kick in after a set period of time (like 2 years after employment starts) or have it apply ratably over a time period (like 25% of unvested options accelerate if the team member has been employed less than one year, 50% if less than 2 years, etc., so that any windfall is limited).

My overarching theme is that team members work hard to get to exits.  Without the hard work of a senior team a good exit won’t happen.  Reward them with single trigger acceleration.  All incentives will be aligned and, most importantly, the team members will fully understand what they have in terms of equity potential.

Happy Halloween!