14 Key Issues in Negotiating Employment Agreements
A clearly drafted Employment Agreement can set out the obligations and expectations of the company and the employee in a way to minimize future disputes. Contract negotiations can be difficult, and high level executives often use an experienced employment law attorney. The following is a checklist of key issues to consider when negotiating employment agreements.
Compensation is the most obvious key issue, but there are multiple layers of negotiating points encompassed here, including:
- Does the base salary increase each year of the contract?
- Is there a signing bonus, especially if the employee would be losing options or other benefits for making the job switch?
- What quarterly or annual bonus is available? Is the bonus guaranteed, dependent on achievement of milestones, or wholly discretionary with the Board of Directors?
- Under what circumstances can the employee’s base salary be reduced? Some agreements give the company the right to reduce base salary up to a certain percentage if other similar situated employee salaries are similarly reduced (such as might occur when the company is in financial distress).
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2. Equity Grants
Equity grants are often an important part of the Employment Agreement, and key issues here include:
- What percentage of equity grant is appropriate — a percentage of issued and outstanding stock or a percentage of fully diluted stock?
- Should the grant be tax advantaged incentive stock options, non-qualified stock options, stock appreciation rights, or restricted stock units?
- If stock options, what is the exercise price?
- What is the vesting period for the equity grant? A typical scenario is 4-year vesting with a one year “cliff vest,” meaning the employee must be employed at least one year before anything becomes vested.
- If the employee is terminated without cause, does some portion of the equity grant get accelerated vesting?
- How long does the employee have to exercise options after termination of employment? The typical period is 90 days. But this can vary depending on whether the termination is for cause, not for cause, or voluntary quitting by the employee to accept another job.
- Is there any acceleration of options upon an acquisition of the company? Does it require an acquisition plus a termination of the employee’s employment (a so-called “double trigger”)?
- Are the shares obtained upon exercise of an option subject to repurchase on termination of employment? If so, at what price?
- Are the shares obtained upon exercise of an option subject to a right of first refusal? If so, on what terms?
3. Scope of Employment
The scope of the employment and responsibilities raise a number of issues:
- What is the title of the employee’s job?
- What are the employee’s responsibilities?
- Can the employee be demoted? Can the employee’s responsibilities be substantially modified, decreased, or increased?
- Is the employee guaranteed a seat on the Board of Directors while an employee?
- Where is the place of employment?
- Can the employee be relocated unilaterally to another city, or only with the employee’s consent?
- Is the employee allowed to be involved in other activities (e.g., a directorship on other Boards, involvement in community activities)?
The various employee benefits available to an employee can raise a number of issues, including:
- Will the employee participate in all of the benefit plans of the company?
- Which of these plans should be in place for the employee? Are all of the payments for the benefits the responsibility of the company?
(a) Health and medical (including spouse and dependent coverage) (b) Disability (c) 401(k) (d) Pension (e) Cafeteria Plan (f) Life insurance (g) Stock option/stock grant (h) Vision (i) Dental (j) Executive financial counseling
- How much vacation per year is the employee entitled to? Does unused vacation continue to accrue for the benefit of the employee and payable on termination of employment?
- How much accrued vacation can carry over to subsequent years?
- Any special loans or forgiveness arrangements?
- Are some of the benefits taxable to the employee? Should employee be reimbursed for the tax?
5. Term and Termination
The circumstances when the employee’s employment can be terminated and the resulting consequences will raise the following issues:
- How long is the employment term or is the employment “at will”?
- What are the grounds on which the company can terminate the employee?
- What are the terms, if any, for compensation in the event of early termination?
- What are the circumstances that the employee can be fired “for cause,” such as:
(a) Conviction of a felony or any act involving moral turpitude; (b) Commission of any act of theft, fraud, dishonest or falsification of an employment record; (c) Breach of the employment agreement; (d) Failure to perform reasonable assigned duties; and (e) Improper disclosure of the company’s confidential information
- Is employee entitled to severance pay on termination without cause? How much? Is it a lump sum or payable over time?
- If terminated without cause, is the company required to continue paying for benefits or COBRA benefits for some period of time?
- If employee is to receive a severance payment, the employee should be required to sign a release of liability for the benefit of the company.
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Richard Harroch is a Managing Director and Global Head of M&A atVantagePoint Capital Partners, a large venture capital fund in the San Francisco area. His focus is on investing in Internet and Digital Media companies. He is the author of several books on startups and entrepreneurship. He was also the founder of several Internet companies. He is the co-author of Poker for Dummies and a Wall Street Journal bestselling book on small businesses.