Self-explanatory. I’m clueless. I just want to know how much money I’m going to be getting every month in total for my job.
In: Economics
Do you mean incentive stock options? Or an employee stock purchase plan? Because I’m pretty sure ISO’s do expire eventually
In this situation the stock option is a contract that allows you to buy shares of the stock at a predetermined price on or before a certain date.
Let’s say you have an option price of $15/share. If the stock is trading at $30/share you can still buy them at $15, making an immediate profit.
If the shares are trading at $13/share, your options are worthless.
What exactly the options are worth will vary as the price of the stock moves. I got a large pile of options as part of my signing bonus with a previous employer and they were *never* worth anything, but some people do get rich this way too.
Your mileage will vary – I’d assume they’ll never be worth much unless they’re priced way below market already.
“Stock options” when it comes to compensation is usually when a company offers you the “option” or invitation/right to purchase the company’s stock (ownership shares in the company) either at a reduced rate or at FMV but you get access to private classes of shares the public may not have access to.
Sometimes it’s very simple like above, sometimes it’s a choice of “pick to get $$$ compensation now or select to get the stock in lieu of the direct cash”
Most companies aren’t publicly traded, so these stocks can be “closely-held” and harder to invest into. You get the privilege of getting into this investment.
Later on, this stock may be worth much more or the company goes public and now you have a valuable asset you can sell much easier. Also sometimes the company will buy back that stock later and might buy it back from you for more, making you even more profit.
Why do companies offer this? For “buy in” from the employees. If you “own” part of the company, you are likely going to really bust ass to try and make the company successful so that you can sell the stock later for a profit. You are literally “invested in the company” in a small but real way. Also, for companies that are cash-strapped, it’s a great way to boost compensation without needing to waste real money. They do dilute their own ownership value by giving more shares away to others, but depending on the company and set up those shares might not be worth much at all, now or in the future. But you can sell the employee on “maybe you make money off this in the future!”
Some people love it, will forego day 1 $$$ comp to gamble on future value. Other people want nothing to do with the risk/gamble. “Fuck you, pay me.” And they mean day 1 cash in hand. Neither way is wrong, it’s a negotiation and offering
#ELI5
“If you come work for us at KangyCo, we can only offer you $70,000 a year. I know that’s less than you wanted, but you know what? We can offer you more stuff”.
“Like what?”
“Well, we’ll give you a company car, and we’ll give you an extra week of vacation, and we’ll match your retirement contributions.”
“Nope, that’s not enough, what more can you offer me?”
“Ummm. We can offer you stock options!”
So **stock options** are a perk, it’s kind of like a bonus you get, that’s not money. A bonus, a perk, like an extra week vacation, or a company car.
What ARE stock options?
**KangyCo** has stock. Any person can buy/sell KangyCo stock anytime they wish. If you think the stock price will go up, you buy it now, at a low price, and sell it later at a high price. Or vice versa.
So … stock is a thing.
But you *also work* for KangyCo. And they gave you stock options. So you’re special.
You are allowed to say, “I want to buy some KangyCo stock next June, but I want to pay today’s price, not whatever price it is next June.”
Nobody else gets that choice. If everyone else wants to buy KangyCo stock next June, they pay whatever the price is next June.
But you, you’re special, you can **OPT** (as in, option) to pay today’s price on KangyCo stock next June … which might actually be lower than the actual price next June!
(It’s like saying you are allowed to buy a Samsung HDTV next year, but pay whatever price it is today.)
So if today’s price is $10 a share…
And next June the price is $18 a share…
You can buy it, next June, for only $10 a share, and you see how you benefit from that, right? You paid a lot less for a stock than the current value!
(Like buying a Samsung HDTV next year, but paying last year’s price!)
So they see that as a perk, like a company car, like an extra week vacation. Being allowed to buy that stock at a deep discount next June, is a perk. They offer it to you, as a lure so that you will work for them. Just like a company car.
“But whomp, what if the price next June is LOWER than $10 a share?”
Well, you don’t HAVE to buy it at all. It’s an *option*. A *stock option*. You can say “No thanks”, and just not buy it.
This is just scratching the surface, there can be tons more details about this, tons more “well, in *this* situation, you can do this, and in *this other* situation you can do that” … but the BASICS are like I laid out above.
Most of the other replies here seem to be missing a key part. Typically when a company offers stock options, it is a pre-IPO company. That means that the stock is only worth whatever VC investors think it’s worth and are mostly worthless to you UNLESS the company either goes public or gets acquired. If the company goes public, you would then have the “option” (hence the name) to buy the stock at a very low price (whatever the strike price is, i.e., whatever the stock was worth when the options were granted, typically less than a dollar) and now you own this stock and could trade it on the open market. If the company is acquired, then your options would typically be converted into actual shares of stock in the acquiring company. Say for example, your company was acquired for $50M by Microsoft, and there was 25M shares of stock in your company and you had 10000 options, then Microsoft is paying $2 per stock, so you would get $20000 worth of Microsoft stock (or just be paid out $20k by Microsoft depending on if it was an all cash deal or a stock acquisition).
Your options will also typically have a vesting schedule where your options don’t vest (actually become available to you) until you have been with the company for a certain period of time. For example, 25% of your options vest on your one year anniversary, 25% on your second anniversary, etc. The vesting schedule varies by company, but it effectively means if you leave for example before a year, you get nothing, if you leave in your second year, you get 25% of them, and you would typically need to stay 4 years to get all of them.
All of this is simplified to keep it ELI5, but you get the gist.
captainXdaithi was right that these companies offer this to you (typically in lieu of paying you more but not always) as a way of giving you “partial ownership” in the company so you feel both more attached to the company and so that you will work harder since you are now incentivized yourself to make the company grow and to stay with the company for longer instead of going elsewhere.
Just remember though that the vast majority of stock options end up being worthless, very few companies IPO, and while some are acquired, your company either needs to be massively successful or have massive potential for that to happen.
The basic idea is that you get the OPTION to buy the stock at a certain price, and the company has an OBLIGATION to sell you stock at that price, typically at some time in the future.
So first let’s talk about time: There is a grant date, which is the date that the company gives you the option. There is a vesting date, which is the date when you can finally exercise your option. And there is an expiration date, after which your option is worthless.
Now let’s talk about stock prices: There is a strike price, which is the price at which you are allowed to purchase. For a public company, this is typically the closing price on the grant date. And there is the fair value at the time that you exercise it.
How much you make is the difference between the fair value and strike price. Let’s say you got 500 options $100 on Jan 1, 2021 vesting 3 years later. Then on Jan 1, 2024, the stock was worth $130. You can get $1500. Congrats!
But how do you get the money? Most companies will offer a cashless exercise, which means that you don’t need to come up with the $5000 to purchase your $6500 of stock. They’ll just pay you the difference either in stock or cash.
Now, let’s say the stock wasn’t worth $130 on the vesting date but only $90. Well, you wouldn’t exercise the option because you could already buy the stock for less than the option is worth. That’s where the expiration date comes in. Maybe your options expire in 5 years. You can wait until the stock price goes above the strike price, and exercise then.
Now, you really want to know how much this compensation is worth. That’s VERY complicated. There are ways to calculate it. For a common stock, they will often use Black Scholls. That’s how they decide how many options to give you. Let’s say your comp is $100k cash + a 20% target for options. They company uses the Black Scholls model to figure out how many options are required for a $20k present value.
This isn’t really ELI5, but five year olds don’t get paid in options.
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