Shares are often given to shareholders on the assumption they will make a long-term commitment to growing the business. One way of ensuring a shareholder remains committed to the company is by adding share vesting provisions to their issuance of shares.
With share vesting, the shareholder still receives the full number of shares on the day they are issued. However, there is an important catch. For a set duration of time, those shares can be repurchased and cancelled by the company if the shareholder resigns.
There are two important elements to the terms of vesting: (1) the Cliff Period, and (2) the frequency of vesting.
The cliff period is the time before any of the shareholder's shares vest. This is the minimum amount of time the shareholder must contribute to the company in order to become a shareholder. It is quite common for a company to set a one-year cliff period, so if the shareholder resigns or leaves the company in under one year all of that shareholder's share can be repurchased and cancelled.
Frequency of Vesting
The second important consideration is the frequency that shares will vest to the shareholder after the cliff period. Some companies choose to make vesting an annual event. So, with an annual vesting frequency, each year a certain number of shares will vest and can no longer be repurchased and cancelled.
More commonly, companies choose for shares to vest on a monthly basis. This means that each month a fraction of the shareholder's shares will vest. Monthly vesting allows for a precise vesting schedule that reflects the true amount of time the shareholder has committed to the company.