Restricted stock: Overview, definition, and example
What is restricted stock?
Restricted stock refers to shares of a company’s stock that are issued to an employee, investor, or other stakeholder with limitations on their transferability or sale. These restrictions are typically imposed for a set period and are often tied to conditions such as employment status, performance goals, or vesting schedules. The shares are typically issued at no cost or at a discount but cannot be freely traded until the restrictions are lifted.
For example, a company may grant restricted stock to an employee as part of their compensation package, where the stock is subject to a vesting schedule and cannot be sold or transferred until the employee has worked for the company for a certain number of years.
Why is restricted stock important?
Restricted stock is important because it serves as a tool to retain employees, align interests, and reward performance. By offering restricted stock, companies encourage employees to remain with the company and contribute to its growth. The restrictions also ensure that employees have a vested interest in the company’s long-term success, as they cannot access the stock's full value until certain conditions are met.
For businesses, granting restricted stock is a way to attract talent, motivate performance, and preserve ownership control, while also benefiting from tax advantages associated with equity-based compensation.
Understanding restricted stock through an example
Imagine a tech company that offers an employee 100,000 shares of restricted stock as part of their compensation package. These shares are subject to a four-year vesting period, meaning the employee will receive 25% of the stock each year. If the employee leaves the company before the vesting period ends, they forfeit any unvested shares. Once vested, the shares can be sold or transferred like regular stock.
In another scenario, a startup grants its founders 500,000 shares of restricted stock, with the condition that the stock will vest over a five-year period, contingent upon the company reaching certain revenue milestones. This motivates the founders to work toward growing the company while ensuring they remain committed for the long haul.
Example of a restricted stock clause
Here’s how a restricted stock clause might appear in a contract:
"The Employee is granted 10,000 shares of restricted stock, which will vest in equal installments over a four-year period, with 25% vesting each year. The shares are subject to forfeiture if the Employee leaves the company before the vesting period ends."
Conclusion
Restricted stock is a valuable tool for companies to retain talent, align employee interests, and reward long-term performance. By offering equity that is subject to vesting or other conditions, businesses can incentivize employees to contribute to the company’s growth while ensuring that ownership remains within the control of those who are committed to its future success.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.