Stock options: overused and underwater; HR professionals face major challenges with this once-attractive recruiting and compensation tool. But there are remedies

Workforce, Jan, 2003 by Don Delves

workforce.com

For more info on: Options Programs

See how the goals of options programs have changed over the last two years at workforce.com/03/01/feature5

RELATED ARTICLE: Stock Option Terminology

Stock Option: The right to purchase a share of stock for a specified price, for a specified period of time. Most options granted to employees give the employee the right to buy the stock at the market price on the day the option is granted. Most options also give that right to employees for a period--or "term"--of ten years.

Exercise Price: An option is a right to purchase a share of stock for a specified price. That price is called the exercise price.

Underwater Option: This is an option whose exercise price is higher than the current market price of the stock. Options rarely start out underwater. They start out "at the money." meaning that the exercise price is equal to the market price. If the stock price drops below the exercise price after it is granted, then the option is "underwater" and as such is not worth much.

In the Money Options: An option is "in the money" when the market price is higher than the exercise price. This is good because you can exercise the option, and buy the stock for less than you could sell it for in the stock market.

Restricted Shares: These are shares of stock that are granted to an employee. While they are officially owned by the employee (who gets dividends and can vote the shares), they have 'restrictions" on them. The restrictions make it so the share of stock may not be sold or transferred (given) to anyone else. Usually, the restricted shares vest overtime. When the restricted shares vest, the restrictions lapse and the shares can then be sold if the employee wishes. If the employee leaves the company before the shares vest and the restrictions lapse, he of she loses all rights to the shares.

Future Grant: An award of options or restricted shares to be made in the future.

Option Dilution: When earnings per share is calculated, net income is divided by the total number of outstanding shares of stock. When stock options are granted, and especially when those options are "in the money," the number of shares used in calculating earnings per share is increased to reflect the potential number of new shares that would be issued if all options were exercised. This reduces or "dilutes" the earnings-per-share number.

Black-Scholes Option Pricing Model: This is a statistical formula developed in the early 1970s by Fischer Black and Myron-Scholes to estimate the market value of a publicly traded stock option. This model and variations of the model are used every day to determine trading prices.

Fair Market Value: The value of the stock or option if it were traded on the open market.

Scheduled Option Grant: A company's regular annual option grant to all eligible employees.

Value for Value Basis: This is where old, underwater options are traded in by employees in exchange for new "at the money" options based on the relative value of the old versus new options.