Forfeiture of virtual option rights after termination of employment

In its decision dated March 19, 2025 (case no. 10 AZR 67/24), the German Federal Labor Court delivered a landmark ruling regarding  the forfeiture of virtual stock option rights after termination of employment. The ruling specifically addresses Employee Stock Option Programs (ESOPs) that included contractual clauses stipulating that virtual options would lapse when employment ends.. The BAG ruled that this is not possible for “vested” options.

Facts

The plaintiff was employed by the defendant from April 1, 2018 to August 31, 2020. and resigned with due notice. In 2019, the plaintiff received an offer for the allocation of 23 virtual option rights (so-called “Allowance Letter”), which he accepted by means of a separate declaration. According to the provisions of the ESOP, the exercise of the virtual options, which can lead to a payment claim against the defendant, requires (1.) their exercisability after the end of a vesting period and (2.) a so-called exercise event such as an IPO. The virtual options allocated to the employee can be exercised in stages after a minimum waiting period (known as a cliff) of twelve months within a vesting period of four years in total. The vesting period is suspended if and for as long as the employee is released from their obligation to perform their work without being obliged to do so.

According to no. 4.2 ESOP, virtual options that have already been exercised (“vested”) but have not yet been exercised expire if, among other things, the employment relationship ends due to the employee's own termination of employment. Otherwise, “vested” but not yet exercised virtual options expire successively within a period of two years after the end of the employment relationship in accordance with no. 4.5 ESOP. At the time of the plaintiff's departure, 31.25% of the option rights allocated to him were “vested”. In a letter dated June 2, 2022, the plaintiff asserted his claim to these virtual options. The defendant rejected the claim with reference to the expiry of the option rights.

The plaintiff argued that the virtual options allocated to him and then “vested” did not expire upon termination of the employment relationship, as the expiry clauses were invalid. The options were an essential part of the remuneration package. He had earned the exercisability of the options by performing the work during the vesting period and thus fulfilled the incentive function. The employer is of the opinion that the virtual option rights had lapsed. The purpose of the virtual options is to reward loyalty to the company until an exercise event occurs. It is merely an opportunity to earn money, so that no earned wages are withdrawn in the event of forfeiture.

Both the labor court and the regional labor court dismissed the claim. On the plaintiff's appeal, the Federal Labor Court (Bundesarbeitsgericht, “BAG”) upheld the action.

Reasons for the decision

In the opinion of the BAG, the "vested" virtual options have not expired. The BAG no longer adheres to an earlier decision in this regard, according to which this was still considered permissible.

The provisions on the employee participation program are general terms and conditions within the meaning of Section 305 (1) sentence 1 BGB. The forfeiture clauses linked to the termination of the employment relationship did not stand up to a content review pursuant to Section 307 (1) sentence 1, (2) no. 1 BGB. The virtual options “vested” by the partial expiry of the vesting period also constituted consideration for the work performed by the plaintiff during this period of active employment. This follows in particular from the provision contained in the ESOPs regarding the suspension of the vesting period during periods in which the employee does not acquire any entitlement to remuneration.

The immediate forfeiture of “vested” options after termination of the employment relationship does not adequately take into account the interests of the employee who has already performed his work and is contrary to the legal concept of Section 611a (2) BGB. Furthermore, this constitutes a disproportionate aggravation of the termination, as the option holder should not terminate the employment relationship before an uncertain exercise event in order to avoid a possible loss of assets. Insofar as the Senate in an older decision (BAG of May 28, 2008 - 10 AZR 351/07) considered the immediate forfeiture of already “vested” options, which could not yet be exercised during the employment relationship, to be permissible after termination of the employment relationship, it no longer adheres to this.

The clause under no. 4.5 ESOP also unreasonably disadvantages the departing employee from a standardized perspective. Although the gradual expiry of the options reflects the fact that their influence on the company value decreases over time, it allows - based on the vesting period of four years regulated here and the included minimum waiting period of one year - for the virtual options allocated to the employee to expire twice as quickly as they are “vested”. This means that it does not take into account the time that the employee has spent on the exercisable option rights by performing his work during the vesting period, without the shorter expiry period being justified by conflicting interests of the employer.

Practical advice

The ruling is currently only available as a press release but could have significant practical consequences. Many existing virtual participation or option programs (“VSOP” or “ESOP”) contain forfeiture clauses that are based on the employer-friendly case law of the BAG from 2008. These programs should be carefully reviewed and, if necessary, adapted to the new legal situation at the latest when the reasons for the decision discussed here are available and evaluated. Starting points include, for example, negotiating the programs (which will often not be possible), possibly staggering the forfeiture or equalizing vesting and active work performance. This will result in higher costs for employers in the event of an exit. In transactions, it should be ensured that these costs are always borne by the seller. It remains unclear whether the BAG qualifies all cases of a “bad leaver” (e.g. extraordinary termination without notice) in ESOP/VSOP as unreasonable disadvantage or whether differentiations are possible.

However, it should be noted that the BAG ruling has no direct effect on expiry regulations for option rights that have not yet vested. In addition, it is still possible - particularly for internationally active corporate groups - to decouple share option programs from employment relationships. If the options are granted by a foreign group company that is not the beneficiary's employer, the exercise conditions can be subject to the law of the country in which this company is based, provided the contract is drafted carefully. In such constellations, German general terms and conditions law does not generally apply. However, it is also conceivable that an unfavorable provision could be considered an aggravating circumstance for termination and the provision would then also be invalid under German employment law.