Employee Stock Options and Acquisition

Acquisition is the end result for many successful startups, so one of the questions that comes up is what to do with outstanding employee stock options. There are a couple of factors that go into determining what an employee’s options are as to his os her options in the event of an acquisition.

The first factor is how the acquirer wants to treat the options, whether to assume the options or offer substitute options. Assuming that the existing options remain in place, the next factor should be what the option plan itself provides for in the event of acquisition. Most option plans permit the option plan committee to either cancel the option (which would necessarily force holders to exercise) or accelerate vesting of the option (permitting holders to exercise) or some combination thereof.

Finally, a third factor that determines a holder’s choices is the type of acquisition occurring. If the acquisition is structured as an acquisition of the assets of the company and not the company itself, then the option likely remains in place, which the holder can exercise to obtain their share of the distribution of the consideration paid for the acquisition. However, if the acquirer is purchasing all of the company’s equity, or the acquisition is being constructed as a merger of the companies, then the acquirer may choose to purchase the options off the holder in order to ensure its ownership of all of the company’s equity.

Startup owners who decide to issue employee stock options should ensure that the plan considers what will happen to the options in the event of an acquisition.