What happens to employee stock options when employee leaves?

[KingGheedora]

Assuming the options have vested, do they lose the options?

And, if they do lose them, what happens to those shares? Are they given to someone else, or do they just disappear?


And correct me if I'm wrong, if the company is aquired, the price paid gets split among the stock holders according to what % of outstanding stock they hold, right?

What if the company just decides to close shop, but has some money in the bank, is that considered a liquidation event the same as an IPO or being acquired? Do the remaining assets then get split amongst the stock holders?

 

[DaveSimmons]

It depends on wording of the agreement under which the options were issued. You might have to exercise them either before you leave or within some time limit.

If the company is acquired you might have to agree to exercise your options before they would be included in the shares being bought, since options are NOT shares, they are just the right to buy shares at a price. Depending on the option price they might also be worthless: If the company is being acquired at $10 / share and your option price is $15 / share, your options are worth -$5 per share, woohoo!

If a company closes shop the stock value probably becomes roughly $0 unless there are piles of cash on hand after paying all creditors and the lawyers.

 

[nickbits]

stock options are not stock. the stock is issued when the options are exercised.

 

[DaveSimmons]

Also be careful about exercising the options without immediately selling the shares.

With "non-qualified stock options" you owe taxes that year as ordinary income, on the difference between the option price and fair market value at the time you exercised. When you sell the shares you then owe the difference between that fair market value and the sale price.

With "incentive stock options" you normally only owe taxes when you sell the shares, but if you are subject to the AMT that year they're taxed the same as NQSOs. Sigh.

 

[SSSnail]

Assuming the options have vested, do they lose the options?

As the name implies, it's options. You can choose whether to exercise the options or not. Depends on your price, exercising the options is not always a profitable choice.

And, if they do lose them, what happens to those shares? Are they given to someone else, or do they just disappear?

Nothing. Companies have a reserved pool of shares for options, if people don't exercise them, the shares just stay in that pool.

And correct me if I'm wrong, if the company is aquired, the price paid gets split among the stock holders according to what % of outstanding stock they hold, right?

No, if your options are fully vested, your option is worth whatever someone else is paying to acquire the company. If your exercise price is $5/share, and the company is being acquired for $8/share, you made $3.

What if the company just decides to close shop, but has some money in the bank, is that considered a liquidation event the same as an IPO or being acquired? Do the remaining assets then get split amongst the stock holders?

The assets gets split between stockholders (also dependent on prior agreements, bunch of other stuffs), if you just have options and no shares, you don't get anything unless you exercise your options BEFORE the company went burst. I wouldn't do it. Depends on your options exercise price, you may not want to exercise them because the assets when divided may not worth what you'd pay for the options.

 

[KingGheedora]

As the name implies, it's options. You can choose whether to exercise the options or not. Depends on your price, exercising the options is not always a profitable choice.

Right, but when an employee leaves, they lose the OPTION then, correct?

Nothing. Companies have a reserved pool of shares for options, if people don't exercise them, the shares just stay in that pool.

So let's say a company has 1000 shares in the options pool. Distributed evenly across 10 employees. One employee leaves without exercising (the company is still private so the shares only become worth anything in a liquidation event). A couple years later the company is bought for $1000, and there are no other shares owned by anyone. THe remaining 9 employees would get $100 each, but what happens to the remaining $100?

 

[KingGheedora]

If your exercise price is $5/share, and the company is being acquired for $8/share, you made $3.
The assets gets split between stockholders (also dependent on prior agreements, bunch of other stuffs), if you just have options and no shares, you don't get anything unless you exercise your options BEFORE the company went burst. I wouldn't do it. Depends on your options exercise price, you may not want to exercise them because the assets when divided may not worth what you'd pay for the options.

Assume this is a startup, and the exercise price is $0.01 per share.

How would one go about exercising the shares? When there is an IPO, the price of the company gets established by the market and then you exercise and earn the difference between the exercise price and the market price.

In a buy-out, when does the employee exercise the options? Assuming the company remains private after the buy out. Will someone contact the employees and give them the option to exercise? Is there a time window after the buy-out where the employee can exercise? Can you explain how it works in that scenario?

I understand if the company goes bust, you haven't exercised and therefore you get nothing. I don't see how that is different from when the company gets acquired though. When the company is acquired, before that there was no opportunity to exercise since the company was private, and at the time of the buy out you haven't exercised your options so wouldn't you get nothing? Confused about that part I guess.

 

[dullard]

Right, but when an employee leaves, they lose the OPTION then, correct?

So let's say a company has 1000 shares in the options pool. Distributed evenly across 10 employees. One employee leaves without exercising (the company is still private so the shares only become worth anything in a liquidation event). A couple years later the company is bought for $1000, and there are no other shares owned by anyone. THe remaining 9 employees would get $100 each, but what happens to the remaining $100?

The option is a part of an agreement between the company and the option owner. If I recall correctly that agreement can be just about anything. The agreement can say the options vanish when the employee leaves. The agreement can say the options last until the company goes bust. The agreement can say the options last for a set amount of time. So, we can't answer your first question without seeing the agreement.

As for the 1000 share example, it doesn't matter. Lets pretend the options expired (probably a good assumption since it was years later). Then it doesn't matter how you think about it. Suppose the company itself held shares. Then the company itself gets $100 and the 9 remaining people each get $100. But, since the company dissolves, that $100 is shared equally amongst those 9 equal shareholds. Meaning that they each get $100/9 = $11.11. Total: $111.11 each.

Or, you could think the shares just were never printed to begin with (or they disappear). Then the $1000 is split equally 9 ways with the 9 equal shareholders. Each get $1000/9 = $111.11. It doesn't matter what happens to those shares (assuming the options weren't exersiced), the end result is the same.

 

[dullard]

Assume this is a startup, and the exercise price is $0.01 per share.

How would one go about exercising the shares? When there is an IPO, the price of the company gets established by the market and then you exercise and earn the difference between the exercise price and the market price.

In a buy-out, when does the employee exercise the options? Assuming the company remains private after the buy out. Will someone contact the employees and give them the option to exercise? Is there a time window after the buy-out where the employee can exercise? Can you explain how it works in that scenario?

I've been in that exact same situation. I bought the shares during the buyout negotiations.

1) The options contract told you how to handle this (probably by giving you a date to buy them before or lose them). You buy the option shares by writing a check to the company before it is sold. After it is sold, it is too late. You can't really write a check to something that doesn't exist, can you.
2) The buy-out generally states the exact numbers of shares and lists the major shareholders. If you don't buy before that buy-out contract is written, your options probably have expired. But again, see your options contract. What does it say?

 

[paulney]

Right, but when an employee leaves, they lose the OPTION then, correct?

You typically get a certain period (3 months after you leave) to decide whether to exercise your options or not. After that the options expire. Check your contract. As others stated, since its options, nothing changes with the actual stock until they are exercised.

 

[paulney]

Assume this is a startup, and the exercise price is $0.01 per share.

How would one go about exercising the shares? When there is an IPO, the price of the company gets established by the market and then you exercise and earn the difference between the exercise price and the market price.

The fair market value of the shares are established at the board meetings. So, if you get options at $0.01 per share, and the board thinks that is the fair value, when you exercise your shares, you do not incur any additional taxes.

If the board meets and decides that the shares are now worth $0.10 per share, and you exercise your stock options, even though the company is not public yet, in the eyes of the IRS, you just incurred an income, since you made a profit of $0.09 per share. You get hit with taxes on that.

So, there's an incentive to exercise your stock options early. On the downside, it's a gamble: if the company goes under, you have most likely lost your investment. Unless you are a preferred stockholder, you get your debts (your investment) repaid to you last, after all the others get paid. If there's no cash left by then - you are SOL.

In a buy-out, when does the employee exercise the options? Assuming the company remains private after the buy out. Will someone contact the employees and give them the option to exercise? Is there a time window after the buy-out where the employee can exercise? Can you explain how it works in that scenario?

Company management is responsible for notifying all shareholders about upcoming acquisition. However, they can do it post-factum, after the sale has been approved, and are not required to let you know well in advance about the decision to do it, so that you can decide whether to you exercise or not.

You usually get a time frame in which you can exercise your options. Depending on the management they can disclose the sale value, the amount of stock issued so far, so that you can estimate your chances of getting paid.

Depending on the terms of acquisition, you may get accelerated vesting - even if you do not have your options vested under normal time frame, they may allow you to exercise more, or even all of them.

 

[DaveSimmons]

The fair market value of the shares are established at the board meetings. So, if you get options at $0.01 per share, and the board thinks that is the fair value, when you exercise your shares, you do not incur any additional taxes.

If the board meets and decides that the shares are now worth $0.10 per share, and you exercise your stock options, even though the company is not public yet, in the eyes of the IRS, you just incurred an income, since you made a profit of $0.09 per share. You get hit with taxes on that

Minor nits (in the US, may differ elsewhere):
- market value will more often be determined by an accountant / CPA, not the board
- taxes are due that year on the difference between market value and option price for "non qualified" stock options, but not for "incentive" stock options (unless you are subject to the AMT).

With incentive stock options you don't pay taxes until you sell the shares, but then you pay based on the full difference between option price and sale price (sale - option). With non-qualified options you pay some taxes that year (market - option price), then the rest when you sell (sale - market).

 

[JEDIYoda]

Also be careful about exercising the options without immediately selling the shares.

With "non-qualified stock options" you owe taxes that year as ordinary income, on the difference between the option price and fair market value at the time you exercised. When you sell the shares you then owe the difference between that fair market value and the sale price.

With "incentive stock options" you normally only owe taxes when you sell the shares, but if you are subject to the AMT that year they're taxed the same as NQSOs. Sigh.

Very excellent and sound advice!!