Service condition definition
/What is a Service Condition?
A service condition is a requirement in a stock-based award agreement that impacts the vesting, exercise price, or other factors related to the fair value of an award that is based on the provision of services by the recipient to the employer. The accountant needs to understand a service condition in order to properly account for the associated award.
Examples of Service Conditions
Here are three examples of service conditions in stock-based compensation:
Time-based vesting. An employee’s stock options vest only after completing a specific period of service, such as four years with a one-year cliff. If the employee leaves before the vesting period ends, they forfeit the unvested shares. This condition incentivizes employee retention and aligns their interests with the company’s long-term success.
Continuous employment requirement. A stock award remains valid only if the employee stays with the company until a specific date, such as a grant that vests fully after five years of continuous service. If the employee resigns or is terminated before that date, they lose some or all of the award. This ensures that employees contribute to the company’s growth before benefiting from stock incentives.
Graded vesting schedule. Instead of vesting all at once, stock options vest in increments over time, such as 25% per year for four years. This means an employee must provide services for multiple years to fully earn their stock grant. By structuring vesting this way, companies encourage long-term commitment and reduce turnover.