Stock option grant: Overview, definition, and example
What is a stock option grant?
A stock option grant is an agreement between a company and an employee (or another type of recipient, such as a contractor or executive) that gives the recipient the right, but not the obligation, to purchase a specified number of shares of the company’s stock at a predetermined price, known as the exercise or strike price, within a set period. Stock options are typically granted as part of a compensation package, offering employees the opportunity to buy shares at a discounted price in the future, often as an incentive to stay with the company or to align the employee's interests with those of the company.
For example, a company might grant an employee the option to buy 1,000 shares of company stock at $10 per share, even if the market price of the stock rises to $15 per share.
Why is a stock option grant important?
A stock option grant is important because it serves as both a compensation tool and an incentive. It allows employees to benefit from the company’s future success by potentially purchasing stock at a lower price than its market value. For companies, stock options are a way to retain and motivate employees, especially in startups or growth companies where immediate high salaries may not be feasible.
Stock options also help align the interests of employees with those of shareholders, as employees are more likely to work hard and contribute to the company's success if they stand to benefit from an increase in the stock price. Additionally, stock options can provide employees with a valuable opportunity to share in the financial success of the company.
Understanding stock option grants through an example
Imagine an employee, John, who works at a tech startup. The company grants him a stock option for 2,000 shares at an exercise price of $10 per share. After two years, the company’s stock price rises to $25 per share. John can choose to exercise his stock options and buy 2,000 shares at the discounted price of $10, then sell them at the current market price of $25. He makes a profit of $15 per share, totaling $30,000.
In another example, a startup grants stock options to a key employee with an exercise price of $5 per share. If, after a few years, the company is successfully sold, and the stock price increases to $50 per share, the employee can exercise the options at $5 per share and sell them for $50 per share, making a significant profit.
Example of a stock option grant clause
Here’s how a stock option grant clause might appear in an employment agreement:
“The Company hereby grants the Employee an option to purchase [number of shares] shares of the Company’s common stock at an exercise price of $[exercise price] per share. The option shall vest according to the following schedule: [vesting schedule], and may be exercised within [number of years] years from the date of grant, subject to the terms of the Company’s stock option plan.”
Conclusion
A stock option grant is a valuable financial tool that allows employees to purchase company stock at a predetermined price, offering the potential for future financial gain if the company's stock price increases. Stock options are used by companies as an incentive to attract, retain, and motivate employees by aligning their interests with the success of the company. Properly structured stock option grants can benefit both employees and the company by fostering a sense of ownership and participation in the company’s growth and success.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.