What are Stock Options?
Posted by Efraim Landa
Effi Enterprises is a business which offers financial consulting to various types of businesses. Mr. Efraim Landa began as an entrepreneur and offers his expertise on how to secure financial revenue for emerging businesses. There are many options available and Effi Enterprises can help businesses sort through the plethora of options to find the most profitable and practical solution for an emerging business’ needs. One of the benefits top companies are offering top paid executives are stock options. The question is why are they being offered and are they profitable for the employee and the business?
Definition of Stock Options
Employee stock options (ESO) are a type of reward in the form of equity in the company. Each company has different policies but most large scale companies offer equity compensation to their executives, and sometimes other employees as well. The employer gives the employee the option to purchase stock in the company by some very defined terms. Employers allow employees to purchase a specified number of company shares or stocks at a preset time and price. These are both specified by the employer. There can be several reasons why private and publicly held companies offer these options to their employees.
One reason is that the company wants to both attract and retain quality workers. They also want to allow employees to feel like they are partners or part owners of the business. Many companies offer stock options to employees to give them additional compensation above their salaries. Start-up companies such as those Effi Enterprises oversees are likely to make this available to employees as it allows them to hold on to more of their capital.
Benefits of Stock Options
When a company offers stock options to their employees the strike price is generally discounted and is close to the present market price. Options usually cannot be exercised for some amount of time so the hope is that the share’s price will increase so that later they can be sold for a profit. Offering stocks in the business can be beneficial for an employee as long as the business does well and stays in business. This is a way of allowing workers to invest in the business while reaping the benefit down the road. This is usually a nice incentive to help motivate workers to keep working and to perform satisfactorily. The financial condition of the business can have a direct influence on their investment.
When an employee purchases options they can convert them to stocks and then wait until the contract on the option expires and sell it off at a profit. They may also sell some of the stocks off for a profit when the contract is up; and save the rest of them for a later date. Lastly, the employee can choose to change all of the options for stock in the company in hopes that the price will continue to increase and they will realize a profit.
No matter which of the choices the employee decides on these options will have to be converted to stocks. The company usually offers a set amount of options and the employee can buy the amount that they want. Usually, the company will spread the vesting period out over 3, 5 or 10 years. Then they will allow employees to purchase a certain number of shares according to a set schedule. For instance perhaps a company offers options on 100 shares of stock in the company. The vesting schedule may be spread out over 4 years. The company may offer one-fourth of the options vested each of the next four years. For the employee that means that each year they can purchase 25 shares at the discounted price and then each year sell it at the current market price, or keep it. The hope is that the price will increase each year.
There is always an expiration date on options. This means that they can be exercised starting on a specified date and ending on a specified date. If they are not exercised according to the dates they are lost. And if the employee chooses to leave the company they only have the option of exercising their vested options and any future vesting is lost.
A company establishes a market or strike price on each of its shares of stock. They fix a price that is close to the share’s internal value and it is set by the board of directors by voting. These are not a risk free option because if the company loses the stock options will decrease in value as well. However, they can be beneficial to the employee and the employer alike.