“What is a ‘change of control’ for vesting purposes?”

Question: There is a clause in my employment contract that says “Upon any ‘significant’ change of control event, all awarded share options will vest at that time.” I was hired in April, in September the Founders were ousted in a coup by investors, new management came in, and the new management wanted me out. 

I was laid off in January, after I helped who turned out to be my replacement get up to speed. 

Question: Am I entitled to my 2% vesting immediately when investors took over and installed new management?    

Tampa, Florida

Answer: Dear Robert: As is so often the case, it depends on the words of your agreement, and even then it may not be clear. Still, you have a good chance of getting immediate vesting of your stock. Here are my thoughts:         

1. When reviewing any agreement, we must read every word and every punctuation mark. Quite often in my blog posts I note that it is essential that people read carefully every word, and every punctuation mark, in an agreement before making a decision as to its meaning and likely effect. In your situation, I would view the definition of “change of control” in your agreement – and it might not even be there – to be the most important language to read. Without that, I can only guess whether you are entitled to the immediate vesting of stock you hope for.

2. “Change of Control” can be defined in many different ways. The question you ask – “Is this a change of control?” depends entirely on if, and how, your agreement defines a “change of control.” I have written a blog post entitled “10 Questions You Need to Ask about Change of Control Provisions,” which you can read by simply [clicking here.]

In that blog post, I wrote about nine different definitions of “change of control,” including (i) change in ownership of a majority of outstanding shares; (ii) change in ownership of a stipulated percentage of outstanding shares; (iii) change in ownership of a “controlling interest” defined in some other way; (iv) a transfer of a substantial portion of the company’s assets; (v) a sale, transfer or closing down of a specified division; (vi) change in composition of the Board of Directors; (vii) a change of the company’s Chief Executive Officer or Board Chairman; (viii) the offering of a portion of the company to the public in an initial public offering; and (ix) a financial restructuring giving effective control to bondholders. There are other possible definitions of “change of control,” as well.

3. It is quite unusual – although not unheard of – for “change of control” to be defined as “change in management.” Note that of the nine different definitions of “change of control,” above, only one of them involves a change of management. From the facts you have provided in your inquiry, you’ve described only one change – change in management. So, on this basis, unless your agreement is different from most, it would seem likely that the facts you provide do not meet the definition of “change of control” in your agreement, and on that basis you would probably not be entitled to the 2% stock option vesting. 

And don’t forget about another word that raises an issue here: “significant” just before the words “change of control.” This would make any “insignificant” – whatever that might mean in this context – change of control not to be a “trigger” of your immediate vesting. In this context it is anyone’s guess what “insignificant” and “significant” mean. In fact, I have never seen it used as it is used here. 

But, as noted above, you need to read your agreement carefully, for the details are what matter in contract interpretation and enforcement.

4. All that said, it is possible that “change of control” is not defined in your agreement, and this might actually be good for you. In several instances, I have seen agreements that speak of “change of control,” but do not define it. Rather, those agreements depend on the general, most common view of a “change of control,” to employers’ substantial risk. Drafters of agreements who use phrases like “change of control” but do not bother to define them do a distinct disservice to their clients. This is so because, when a phrase like “change of control” is not defined, its definition is left open to question – and, for this reason, open to possible different interpretation by others, including judges and juries. And, also, there is a common “rule” of interpreting contracts that says, “If it is unclear, it should be interpreted against the interests of the drafter (or his or her client.)” In this way, clear language is rewarded, while sloppiness is hopefully deterred.

5. Lack of clarity leads to risk, which is a scary thing to all companies and investors, but especially to early stage companies and their investors. Imagine if Facebook wanted to go public, but they were not sure who owned 2% of the company. That would be a big problem. In this way, the absence of clarity on issues related to ownership of a company – and especially ownership of an early-stage company – is a big problem for employers, and therefore significant leverage to employees. Employees with unclear ownership of equity have much more negotiating leverage for this reason but, sadly, often don’t realize it or take advantage of it.     

Robert, with these things in mind, I hope you are able to get the immediate vesting of stock you seek, either (a) by your former employer’s acknowledgement that the change in management is a kind of “change of control,” or by (b) negotiating to get them to agree to that by means of your staking a claim for it.

Best to You,
Al Sklover

P.S.: One of our most popular “Ideal Packages” of forms, letters and checklists is entitled “Ultimate Severance Package” consisting of four Model Letters/Memos for severance negotiation, as well as our 94-Point Severance Negotiation Checklist.” To obtain a complete set, just [click here.]

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© 2012 Alan L. Sklover, All Rights Reserved.

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