Thursday, March 12, 2009


Google re-prices employee stock options

According to this AP article, Google offered to reset the strike price on employee stock options to just over $300 — a more recent and more realistic price than the $500 or more than some of them had been set at — and more than 15,000 employees took them up on it.

In case you aren’t sure how stock options work, here’s the quick version: options are issued to you at a particular strike price (also called exercise price, as they do in the AP article). The strike price usually matches the market price on the day of issue. There’s normally a vesting period (you can’t exercise your options before they’re vested) and an expiration date (if you don’t exercise them before they expire, you lose them). Any time after the options have vested and before they’ve expired, you can exercise them — buy the amount of stock the options allow, for the set strike price.

Obviously, if the market price of the stock is higher than the strike price, exercising the options can be a good deal. If you get options for 2000 shares at $50/share, and five years later the stock is worth $150/share, you have a bargain on your hands. If you’re allowed to immediately sell the stock (you might be required to keep it for some period, according to the terms and conditions) you can triple your money immediately — you’ll make $200,000, less expenses and taxes. If, on the other hand, the stock is only worth $25, you would not exercise your options, because you can buy the stock on the open market for half as much (assuming, as with Google, that it’s a publicly traded company; there are other factors in effect for options on private stock).

The beauty of stock options from the employee’s point of view is that in the worst case, they’re worth nothing, and in the best case... well, they have the potential for open-ended value (which is the reason they expire, to avoid being a liability to the company forever). They also encourage you to stay (because of the vesting period, and because you usually lose your options if you leave the company before you exercise them), and they give you an added incentive to help the stock price.

The beauty of stock options from the company’s point of view is that they can give you an award that makes you feel good, but that doesn’t actually cost the company anything until you exercise them, and that only happens if the company’s done well in the interim. Not only that, but there are advantageous tax and accounting rules that make stock options appealing... though some of those rules have become less advantageous in recent years.

But here’s the thing: those rules also make it a complicated matter to re-price options that have already been issued. And it has a significant effect on the accounting for the options. The company took on a big financial liability for doing this.

Of course, the options don’t have much value for employee morale or retention if their strike price is much higher than the current market price. People who were happy to get a nice award when they were issued are often cynical when they see that they have options that are worthless now, and will most likely be worthless until they expire. It can actually be worse to have employees with those kinds of stock options than not to have given them the options in the first place.

So that’s why they did it, despite the liability, the complications... and the grumbling from shareholders who didn’t get the same deal on their stock. I have to hand it to Google for this one: they did right by their employees here.

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