Employee Stock Option - ESO

Employee Stock Option - ESO

A stock option granted to specified employees of a company. ESOs carry the right, but not the obligation, to buy a certain amount of shares in the company at a predetermined price. An employee stock option is slightly different from a regular exchange-traded option because they are not generally traded on an exchange, and there is no put component (where a profit is made frome the underlying stock following). As well, employees typically must wait a specified vesting period before being allowed to exercise the option.

Notes:

The idea behind stock options is to align incentives between the employees and shareholders of a company. Shareholders want to see the stock appreciate, so (in theory) rewarding employees when the stock goes up puts everybody striving for the same goals. However, critics point out that there is a big difference between an option and ownership of the underlying stock. If the stock goes down, the holder of an option would lose the opportunity for a bonus, but wouldn't feel the same pain as the owner of the stock. This is especially true with employee stock options since they are often granted without any cash outlay from the employee.

Another problem with employee stock options is the debate over how to value them and the extent to which they are an expense on the income statement. This is an ongoing issue in the U.S. and most countries in the developed world.

See also: Call, Cashless Exercise, Employee Stock Ownership Plan-ESOP, Exercise, Incentive Stock Option-ISO, Nonqualified Stock Option-NSO, Option, Stock Appreciation Rights-SARs, Shareholder Value Transfer, Vesting