Are stock options worth as much as shares?

Question

I was undergoing salary increase negotiations (after a year) recently and it was decided a percentage of my salary was to be paid in shares.

However, when the offer came, I noticed I would be getting Options instead. There's a listed number of options and an exercise price. Not knowing what an option is I looked it up and from what I could gather, they allow you to buy a number of shares at a certain price, sometime in the future, regardless of if the price changes or not.

I'm a bit confused by this because does this mean I still need to put money in to purchase the shares?

My main concern is that I've sacrificed some significant portion of my salary in order to receive these stock options and that they aren't actually worth anything and I still need to put a heap more money in before I get shares. Is there anything in the rules or something that could mean that the stock options can be redeemed without paying any extra?

Note: the current share price is the same as the strike price

Answer 1

In your comment you note that your company is not yet listed. This is important.

So, what are stock options worth? Let's give some scenarios:

1: The company becomes public, and starts selling shares to anyone who asks. The stock reaches a certain price higher than the option price, and you use your stock options to get a nice payday.

2: The company gets bought by another company. This also lets you get a nice payday from your stock.

3: The company just continues on as it has been. Your stock options are useless. While you can buy stock, there's no reason to do that.

4: The company collapses. Your stock options are useless.

Which is more likely? That's your decision to make. Personally, I would not consider stock options to be worth anything unless the company had explicit plans of getting bought out or going public in the foreseeable future.

Answer 2

Your concern seems to be the need to put up cash to exercise the options. You would only do this, of course, if the stock is worth more than the exercise price; that is where the value of the options comes from. However, the liquidity aspect is a legitimate issue.

One approach, which may not be permitted by your terms, is to sell the options to someone else who has the liquidity to exercise them (this is typical with exchange-traded options). Even if this isn't allowed, it's not surprising that when you hold options with significant value, brokers are more than happy to do an exercise-and-sell where they lend you the exercise amount for a small fee, given your agreement to immediately sell enough of the stock to pay them back.

Answer 3

First, read the rules carefully. If necessary, talk to your manager and co-workers until you understand what your options are. My option was slightly different than what you described, and I am sure that there are other minor variations.

Yes, you will need to put in money to buy the shares if you choose to exercise your option. If the stock price goes up, you are wise to exercise your option and purchase shares. If the price has doubled, you have instantly doubled your money.

Edit: comments based on the company being private. This is an all or nothing deal. The primary stockholders are hoping that you will be motivated to work hard and stay with the company. You need to try to determine if the deal is fair for you. For example, when the primary stockholders cash out someday, for every million they make, how much could you potentially make? You should be able to estimate this based on how many shares they own, your exercise price, and how much you will you be allowed to buy. You also need to consider how much the company may be worth someday.

Answer 4

A stock option gives you the option to purchase shares in the future at a particular prices which is specified when the options are granted, say $100 (called the strike price). If the stock goes up after the options are granted, to $110, for example, you have the option the purchase one share for $100, which you can then immediately sell for $110, getting you a profit of $10. If the stock goes down below the strike price, to $90 for example, the stock option is worthless - there's no reason why you'd take the option to buy the stock at $100 when you could buy it on the open market for $90.

Options are not stock, although their value rises and falls with the stock. The notable difference is that if the price drops below the strike price, the options are worthless. Stock options only have value if the stock goes up.

So, how much is an option worth? One rule of thumb suggests options are worth roughly 1/4 of the strike price. My company offers a choice to take N shares of stock, or 4N stock options. One share of stock at $100 is worth $100, and my employer considers 4 stock options to have equivalent value (4 x $25 apiece). Keep in mind that this is a rough estimate, though, and the behavior of the stock will dictate what those options are actually worth - they might be worth $0 apiece in the end, or considerably more than the $25. If you gave up $X in salary to get options struck at $Y, you should probably have gotten about 4X/Y options for it to be a "fair" trade.

Example: If you give up $1000 in salary to get options struck at $100, you should probably be getting somewhere around 40 options. If the stock reaches $125, you could do a same day exercise-and-sell to get $25 apiece (buy for $100, immediately sell for $125), netting you the same $1000 . This is a higher-risk, higher-reward proposition than salary alone - if the stock never hits $125, you would have been better off with the cash, if the stock goes above $125, you'll make more with the options.

Answer 5

To answer your question: No. Stock options aren't worth as much as shares, because if they were, there would be no reason to not just buy the stock outright. The price of an option is based on the different between the current price (whatever that is) and the strike price (which in your case is 35 cents) with a floor of 0, plus some time value based on the volatility of the price or more intuitively, the likelihood that the price will go up (for a "call" option, which is technically what you are being offered).

Let's address the numbers side of the equation. You really haven't provided enough information to really compare the options you are being offered against an offer for stock outright. The offer includes the option to buy 10,000 shares for 35 cents each. But without some idea of the current valuation of the stock that 35 cent number is meaningless.

The first thing I would do is ask for figures from the previous rounds of private offerings that the company made, as well as how much the next upcoming round is going to be for. For instance, maybe the company did an offering at 10 cents, 20 cents, and 25 cents and is planning on doing another round at 50 cents in 6 months. Knowing when the previous rounds were as well as the probable time frame of the next round will allow you to plot a chart showing the valuation over time. Note that since this is offering valuations, it's not going to be as accurate as if the company were public, as it's basically just a measure of how much a few sophisticated investors think the company is worth to them (keep in mind, many of them may just be estimating the likelihood of a higher exit price, not how well the company does in the long term) and how much the company thinks it can command in another offering.

If you take the amount of the previous offering and the amount of the planned offering and chart them against time, you can draw a line between the two points to get a rough estimate of what the current price might be. Personally I would lower that estimate a little unless the next round valuation was already locked in and at least a few investors subscribed.

As I mentioned, the actual value of an option is not only based on the difference between the current stock price and the strike price (35 cents) but also how long you have to exercise the option. If the options expire next year, you have much less of a chance to wait for the price to go higher than if you can exercise for 5 years, for example. Because of this, even if the stock price is lower than the strike price there is some value to the options. If you want to calculate this you can search for the "Black Scholes" model.

Another thing to note is that if you are offered the choice between options and shares, the options option should always be for more shares than the outright stock grant, because the option for a share is only worth a (sometimes small) percentage of the price of a share. So if you were granted the option for 10,000 shares at 35 cents, this would be equivalent to some smaller number of actual shares outright, anywhere between 500 and 2500 would be my guess. Because of this, if I had to guess I would say that your options are not worth $8k unless the last funding round was done for a substantial amount more than 35 cents. For instance, if the last round was funded at $1 then the options would be worth $6500 plus time value, so it would likely be worth it (if you got stock outright you could expect 8000 shares), whereas if the last round was funded at only 50 cents, they would only be worth $1500 plus time value (whereas with stock outright you could get 16000 shares, which is more than the number of options offered). Depending on how soon the next round was and its expected valuation this could change the expected value as well as you might use valuations closer to that price.

Answer 6

My main concern is that I've sacrificed some significant portion of my salary in order to receive these stock options and that they aren't actually worth anything

They might end up worthless, but they also might end up being worth more than you paid for them.

Let's take a simple example. Suppose you paid $5 per share for these options with a strike price of $20. That means that your "break-even" price for the stock when you exercise them is $25 (the $20 you'll need to pay for the stock plus the $5 you paid for the options).

Now the company has gone public and you can buy and sell shares transparently. If the stock is worth less than $20, then your options are worthless and you're simply out the $5. If the stock is worth between $20 and $25, you would still exercise the option and sell the stock for more than you paid for it ($20) but it would require the cash to buy the stock. Of course, you could turn around and sell it for more so you wouldn't need the cash for that long.

If the stock is worth more than $25, then you've made a profit overall. You can buy the stock for $20 and sell if for more then $25, making at least your $5 back plus some profit.

Is there anything in the rules or something that could mean that the stock options can be redeemed without paying any extra?

It depends on the terms of the option agreement. If the company will let you sell the option, then you should get at least the intrinsic value (the current stock price minus the strike price). But if your agreement prevents you from selling the options, then you might need to exercise them in order to cash them out.

With a private company, things are more complicated. Since there's no public market to dictate the price of your shares, you don't really know what they're worth so it's hard to know if the options should be exercised or not.

So what you've really bought is a lottery ticket that might pay out IF the company goes public and IF the shares are worth more than your options' strike price.

If it were me, I would only sacrifice pay for options if I was getting paid more than enough to keep my personal finances in order (living within my means, a reasonable emergency fund, no significant debt to pay off) and were willing to take a risk that these options would be valuable in the future.

Answer 7

Something to consider: Giving you share options costs the company nothing. Say they gave you the right to buy 1,000 shares at $10,00 each. The company has reserved shares for this purpose. If the share price shoots up to $100, the company still makes $10,000 (they just don't make as much as they could have). You would make $90,000, but the company doesn't pay for this.

So for this reason it is much easier for the company to give you share options instead of salary. It is cheaper for them, even if you benefit a lot. And let's say you can exercise the options after four years; you're in your job for three years and the share price is $30. You know have a very good reason to stay for at least another year. Again, with no cost for the company.

Answer 8

The simple answer is that options are worth less than shares, but more than nothing. Exactly where they fall in that range depends entirely on the company’s prospects and on the exercise price. If the company will prosper and its share price will go well above the exercise price, then options are worth nearly as much as shares. If it will fail and never exceed the exercise price (or more likely, never have a liquidity event that would even allow you to exercise the options) then they’re worth practically nothing. Only you can make a judgment on that.

Answer 9

You are being screwed.

There are an absurd number of variables when you are "given" stock options.

The fact that you have not even mentioned factors such as the options cliff suggests they are simply waving the word "options" in front of you to avoid paying you.

Here for example is an article on just one issue about options:

https://www.businessinsider.com/everything-you-need-to-know-about-cliff-vesting-2011-5

I quickly googled

... google "screwed by stock options"

and found articles like this:

https://medium.com/@ajfrank/dont-let-recruiters-trick-you-or-how-to-evaluate-an-offer-from-a-technology-company-d3344b4c07b7

My impression is at the moment your knowledge about options is zero, which is equivalent to "they are screwing you".

You need to massively inform yourself, and, seek a tremendous amount of professional paid advice.