Your employer has granted you stock options as part of your remuneration package. But what does this mean when your company is sold or listed (called a liquidity event), and more importantly – when do you get your money?
In this ‘Tricky Clauses’ guide we discuss how ESOPs work for employees of startups in Southeast Asia when a liquidity event occurs.
Other installments in our Tricky Clauses series:
- Tricky clauses: warranty disclosures
- Tricky clauses: what is founder vesting?
- Tricky clauses: what you need to know about exit rights as a founder
a quick recap on ESOPs
Under an ESOP, an employee receives options over shares in a company. Those options typically vest over a period of 3-4 years.
When an option has vested, this means the employee can exercise it and purchase a share in the company. Often, employees wait for a liquidity event before exercising vested options. This is because the employee has to pay an exercise price to exercise options, and may also be liable for tax. If an employee waits until a liquidity event occurs before exercising options, they can sell the shares in that liquidity event and (ideally) get some upside after paying their exercise price and tax bill.
what is a liquidity event?
A Iiquidity event is a transaction that enables all or a substantial portion of the company’s shares to be sold. This is typically an exit transaction (i.e. a sale of the company or its assets in a private transaction) or a listing on a stock exchange.
what does a liquidity event usually mean for an employee holding options?
In Southeast Asia, employee share options often fully accelerate on a liquidity event. This means that, on an exit or a listing, all unvested options immediately vest, and employees can exercise all of their options and receive shares in the company.
Employees can then participate in that liquidity event, by selling their shares to the buyer of the company or on the stock exchange, or by receiving profits out of a sale of the company’s assets.
Under this scenario, called single trigger acceleration, employees get the chance to exercise all of their options and cash in the resulting shares, no matter how long they have been with the company. As you can see, this is an employee-friendly scenario.
what other scenarios are out there?
Another scenario you sometimes see is called ‘double trigger acceleration’
In some cases, two events need to occur before an employee gets to exercise all of their options:
- the company has a liquidity event, and
- the company or acquirer terminates the employee in close proximity to the liquidity event – (e.g. within a year).
This means that if an acquirer retains an employee, she or he can only exercise any options that have already vested, and needs to keep working at the company until the end of their vesting period before they can exercise the rest of their options. Only employees who are retrenched or made redundant soon after the liquidity event can exercise all of their unvested options (this is the second “trigger” in action).
For those employees who are retained, it is common for the acquirer to trade options in the target company for options over shares in the acquirer. This can be good for employees if the acquirer is a listed company, as it creates liquidity for the employees as options vest.
Double trigger acceleration is the most common position in Silicon Valley deals. If you’re an employee, this means you don’t automatically get to cash in when the company exits, unless the acquirer also lets you go shortly after the acquisition.
From the company’s perspective, double trigger acceleration can make the company more attractive to potential acquirers, as those acquirers will have some comfort that employees are less likely to leave soon after an acquisition.
(Confused with startup jargon? Head over to our startup glossary.)
what can companies and employees expect in the future?
Over the past year or so, we’ve seen more VC deals in Singapore adopt double-trigger acceleration, and we think we will see more of this as deals generally head towards more Silicon Valley-style terms.
Want to discuss your ESOP plan or thinking of putting one in place? Get in touch with one of our startup lawyers.
