What Really ARE Stock Options?
February 21st, 2008
A lot of people who actually OWN stock options have no freaking clue what they are. In total honesty, I was actually ISSUING stock options 2 years ago before I truly understood what they were. I’m glad to say that now I do.
A stock option is really the “option to buy stock of a company at a certain strike price.” So, as an incentive for employees, a lot of start-up companies (that eventually want to one day build to doing $100M a year and then selling for $1 Billion : ) will issue stock options as a part of the compensation.
Typically doing this allows them to be able to pay “lower salaries” since cash is precious to a new company but also is a great retention tool to keep the employee around longer.
How do stock options help keep an employee around longer?
Simple - the most common stock option agreement has a few things that you have to look for:
1. Strike price: This has nothing to do with retention, but it’s important. This basically is the price the company is guaranteeing you can buy your stock for. Example, how great would it be if you had Google “stock options” at a strike price of $1 (as I write this GOOG is valued at $509), that would mean you can immediately make $508 per share!
2. Vesting Period: THIS is where “retention” becomes key. Most stock options are vested over 4 years. This means you get your rights piece by piece the longer you stay with the company.
3. Cliff: A good majority of stock options have a “1 year cliff” - that means you have to be in the company for at least 1 year before you start vesting any of that stock.
So, now you see how stock options help a company retain their talent?
But, at the same time, they really are great for the team members too. You get a chance to participate in the UPSIDE of the company that you’re helping build - you get your skin in the game!
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Tags: cliff, stock, stock options, strike price, vesting period
