WARNING!!!! This page may be out of date. Use it only to inform your additional research and prior to consulting your own professional advisors.

Understanding Employee Stock Options

More and more employee compensation plans include stock options. Options are a cost effective way for a company to share its success with employees, to recruit, motivate, and retain top-notch employees. The downside for the employee, is that options are difficult to understand and plan with. Typical questions one should ask include:

	what are my options likely to be worth?
	how are my options taxed?
	what type of options do I have (non-qualified? qualified/statutory/incentive/ISO)
	when should I exercise my options? should I exercise them before an IPO? should I exercise them before they have vested? (yes you can do this and its sometimes a good idea)
	how should I ensure proper diversification while still retaining significant upside

Our belief is that you can understand the way options works and how to go about making intelligent decisions -- if you want to and if you put in the time and effort to learn about how they work. The resources listed here and the talk given by Jon Rochlis at LISA 2000 are intended to help you come up to speed. Either so you can work out your own strategies or be better able to evaluate the skills and knowledge of a financial or tax advisor. Please note: nothing on this pages should be taken as specific advice related to your personal situation. Rather we only discuss the way options, investing, and taxation work. How they general rules apply to your situation is often complex. Consult your personal advisor before taking action.

Slides for Jon's LISA 2000 talk are available. Lisa2000.pdf

Books

There are a few books which describe the ins and outs of employee stock options. More and more seem to be coming out every day! Which are useful and which should you stay away from?

Consider Your Options: Get the Most from Your Equity Compensation, 2005 Edition by Kaye A. Thomas.

This is where I'd recommend starting. Kaye Thomas does an excellent job at describing the complex landscape of employee stock options. Despite a difficult and tedious subject Consider Your Options is quite well organized, readable, and comprehensive. The authors run a very good web site devoted to the subject (www.fairmark.com). The site consists mostly excerpts from the book plus discussion groups, frequently answered by the authors.

What Consider Your Options lacks, however, is a set of illustrative examples, or detailed discussions of strategies and how they might relative to your own personal situation. Think of it as a excellent description of the rules of the game and a great place to start.

Stock Options: An Authoritative Guide to Incentive and Nonqualified Stock Options (2nd edition) by Robert R. Pastore

Robert Pastore's thin but expensive book is excellent as well. But it is much harder to absorb. The organization and formatting make it difficult to get through. Unlike Consider Your Options, Pastore's book, isn't polished. But make no mistake about it Pastore knows his stuff and the data is all in here -- including primary source IRS rulings and details relating to insider restrictions.

If you're a techie you'll like his graphical description of option taxation. It helps make all of the text about qualified vs. non-qualified options, bargain element taxation, basis, and Alternative Minimum Tax comprehensible.

This is the book to go for if you want to really get into it. But be careful not to get lost.

Pastore spends a significant amount of time walking through several case studies. This is, perhaps, the best part of the book. Not only do they help to explain the technical details, but they also serve to give one a framework to approach an analysis of what to do. The differential cash flow Internal Rate of Return analysis comparing Buy & Sell with Buy & Hold is excellent but quite involved. Read it several times and take it to heart.

Other Books

We will add other books over time. In particular I have received requests for pointers to books which address the company point of view more than the employees. If you would like to be notified when we add more reviews or pointers send email.

For now, the box bellow contains Amazon's automatic take on what employee stock option books might be interesting:

Search for other books at Amazon.com

Use the search function below to see a list of all the books Amazon has relating to Stock Options. Note that this will match books from the company point of view (e.g. how to set up option plans) especially on the (mostly) unrelated topic of playing the stock market with puts, calls, and the like. Feel free to type in another string, and search on that - title, ISBN, author name, etc. should all work, too.

Tax Code

This is the actual tax code defining Incentive Stock Options (ISO) from www.findlaw.com: Laws: Cases and Codes : U.S. Code : Title 26 : Section 422. Remember this is only one portion of the tax code and you should not draw legal conclusions based on a layman's reading of a such a small portion. Yet you can see how understandable this section is. (Don't believe all code sections are similar).

Web Sites

The people who wrote Consider Your Options have a very good web site. It has many excerpts from the book plus discussion groups, frequently answered by the authors.