📈 Investing Fundamentals
Stock Options
The right to buy shares at a fixed price.
Updated
A stock option is the right, but not the obligation, to buy a company's shares at a fixed price (the strike price) for a set period.
What is a stock option?
Two things go by this name: options an employer grants, and options traded on an exchange. This lesson is about the first. A stock option lets you buy a company's shares at a price fixed in advance, the strike price, for a set period. If the shares trade above the strike, each option is worth the difference; if they trade below it, there is nothing to gain from using it today. Employee options usually vest on a schedule, and only vested options can be used.
How do stock options work?
Options that haven't vested aren't yet owned: leaving the company usually ends them. Counting them in net worth alongside what is owned overstates what is certain, so they belong in a separate line, as what may come. The value above the strike is what a vested option would gain if used today, before tax. An option traded on an exchange is also priced for time: the market's price for what the shares may do before it expires, which is why a listed option can have a value even below its strike. RSUs work differently: they deliver shares on vesting with no price to pay, so their value is the full share price.
The arithmetic
One employee grant. Illustrative round numbers.
- 1A grant of 1,000 options with a strike price of $20, vesting 25% a year over four years (the first 25% after one year).
- 2After one year, 250 options have vested. If the shares trade at $50, each vested option is worth $30 more than its cost to use: 250 × ($50 − $20) = $7,500, before tax.
- 3All 1,000 vested at $50: 1,000 × $30 = $30,000 before tax. If the shares trade at $15, below the $20 strike, the options have no value to use today.
Where it lives in Eudos
Equity grants, under Assets, record an employer's options or RSUs with the strike, vesting schedule and expiry, and show what has vested, what hasn't and the value above the strike before tax, kept apart from net worth. Shares once exercised or delivered are recorded as holdings, and option contracts held at a brokerage sync and are priced from the options chain, as contracts.
Questions, answered
What is a stock option?
The right to buy shares at a set price within a set time. If the market price is above the strike price, the option has value; if it's below, it has none to use today.
What is the difference between stock options and RSUs?
An RSU (restricted stock unit) delivers shares when it vests, with no price to pay. A stock option gives the right to buy shares at the strike price once vested; its value is the market price above the strike.
What does vesting mean?
Vesting is when the options become yours to use, usually on a schedule, such as 25% after a year and the rest monthly or yearly after that.
How are stock options taxed?
It depends on the type (incentive stock options and non-qualified stock options are taxed differently) and on when they're used and sold. A CPA can say what applies; Eudos shows the numbers.
What's the difference between employee stock options and options trading?
An employer grants employee stock options as pay: the right to buy company shares at a set price after vesting, usually not transferable. Traded options (calls and puts) are contracts bought and sold on an exchange, on listed stocks, with their own price and expiry. Eudos's brokerage view prices traded option contracts held in an account.
What is a stock option grant?
The award itself: the number of options, the strike price, the vesting schedule and the expiry date, set out in the grant agreement.
What is a non-qualified stock option?
One of the two main types of employee stock option in the US (the other is an incentive stock option). They're taxed differently; a CPA can say what applies.