Hiring Employees

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1

Stock Options

Objectives

• Number of shares in option pool

• Type of option

• Exercise price

• Duration

• Permissible forms of payment

• Vesting

• Transfer restrictions

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Number of Shares in Option Pool

• Start-up establishes collective pool of shares

• Stock options granted from this pool

• Limit is determined by number of uncommitted shares remaining in pool

• Earmark ~20% of shares for employees and service providers – Includes options, preferred stock, warranties, etc.

Types of Stock Options

• Incentive stock options = only employees

• Nonqualified stock options = anyone

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Exercise Price

• Options must be granted at FMV of stock at the time of the grant

• Discounted stock options (lower exercise price) has serious tax implications

• Keep records of valuation to avoid securities or tax fraud allegations

Duration and Payment

• Maximum duration is 10 years

• Termination allows employee 1-3 months to exercise options

• Forms of payment – Cash or check

– Already owned shares of stock in company

– Promissory note

– If public company, proceeds from sale of stock

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Vesting

• Allows employees to participate in financial upside of company

• Typical 4-year vesting schedule

• May be tied to performance goals or years of service

Transfer Restrictions

• Allows the company to maintain control over stock ownership

• Right of first refusal on vested or unvested shares

• Drawbacks of stock option repurchase

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Summary

• Stock options preferable for employee incentive programs

• Number of shares, price, duration, payment, vesting, and transfer restrictions are all things to keep in mind when deciding to create an employee stock option plan