What happens to employee unvested stock options upon acquisition?

Question (Orig. on Quora):

Let say I’ve received 1% over 4 years. At the end of the second year we get acquired. Now I have 0.5% in my hands. What’s happens next, assuming I continue working at the acquiring company?

Do I still get stock options of the ‘old’ company for the next two year?
Does the old company even have stocks of it’s own now that it’s been acquired?
Do I switch to getting options of the new company?
How will the value of the options I get be determined?

Many companies may sell for tens of millions and be worth close to nothing after a few months, be dissolved by the acquirer etc. I’m wondering how may my unvested stock option keep their value.

Answer (by Dan Walter):

Generally the basic for how this is handled will be described in your Plan document and your award agreement.  Here are three things to look for.

1. Unvested portion will be assumed. – This means the acquiring company will “convert” your old grant into a new grant of roughly the same value (taking the intrinsic value of your old awards and converting them into shares at the new company’s price) and at least the same terms. You will receive updated information. Your exercise price may change. Your vesting will likely be the same, or earlier.
2. Unvested portion will be cashed out. – This means that the company does not want to carry your equity, or may not be able to carry it (legal issues, etc…).  They will cash out any unvested equity compensation at the then current value (*Be aware that this may be $0.00). You will have income and associated taxes at the time of payment.
3. Unvested portion will be cancelled/forfeited. – While it isn’t common, some companies set up plans so that unvested amounts simply “go away” at the time of CIC. The company is not required to provide a replacement or payment (although many do provide something)

It is critical that you read and understand your agreement paperwork.  There are many moving parts.  There are many things that may seem logical or even possible.  This area of compensation is still somewhat of the Wild West, so you need to do your homework.   This is especially true in environments where IPOs are less likely that corporate transactions like mergers and acquisitions.