When it comes to startup equity compensation, vesting and cliffs are essential concepts that both founders and employees should understand. Vesting refers to the process of earning ownership of equity over time, while cliffs represent a specific period when no equity is earned until a certain time has passed.
Vesting is Time Before Equity Ownership
In simple terms, vesting means that you have to work for a certain amount of time before you can fully own your equity. If you leave the company before the vesting period is over, you may forfeit some or all of your equity. This is important for founders to understand, as they will need to set up a vesting schedule for employees as part of their compensation package.
A vesting schedule typically consists of a set number of years, with equity gradually accruing over that time. For example, a typical vesting schedule might be four years, with 25% of equity earned after the first year and then 1/48th of the equity earned each month thereafter. This means that after four years, an employee will have earned all of their equity.
Cliff is How Long No Equity is Owned
Cliffs, on the other hand, represent a specific period of time during which no equity is earned. This is often used to ensure that employees are committed to the company and will stay for a certain amount of time. A cliff can be set at any time during the vesting period, but it's most commonly set for the first year. This means that an employee won't earn any equity until they've been with the company for at least a year.
The purpose of cliffs and vesting is to ensure that employees are incentivized to stay with the company for the long-term. This helps to align their interests with those of the company and can reduce turnover. It also ensures that employees are motivated to work hard and contribute to the success of the company.
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Vesting and cliffs are essential concepts that anyone working in a startup should understand. They are used to ensure that employees are committed to the company and will stay for a certain amount of time. For founders, setting up a vesting schedule is an important part of creating an equitable compensation package for employees.
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