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When to exercise company share options

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Companies often give employees share options, which provide the right but not the obligation to buy shares at a certain strike price. If the actual share price is higher than the strike price, then a profit is made (which may be subject to tax). Companies often offer some latitude in deciding when to exercise the options. Here's some of the issues you might want to consider in deciding when to exercise your share options:

Out of the money stocks

If the stock is out of the money (i.e. the share price is below the strike price) then the option is worthless, so it's probably in your interests to wait until it might become in the money.

Know your risk appetite

Know yourself. Are you a risk taker or risk averse? Would you be able to stomach it if you held onto the share options longer and the price fell (and the option even became worthless)? Risk takers might be more inclined to hold onto stock options for longer in the hope of prices rising, whilst those who are risk averse might fear the price of the option falling and want to cash in quicker.

Value of option relative to your net worth

One of the factors impacting most people's propensity to take on risk, would be the monetary value of the option relative to their net wealth. If you've got R1bn in assets then an option valued at R100,000 doesn't make too much difference to you, but if your total wealth is R200,000 then a R100,000 option forms 50% of your wealth.

Concentrated stock position

A stock option represents a concentrated position in a single stock. Unless you have a large enough stock portfolio, you might be taking on a lot of company specific risk.

Employer specific risk

If your employer went bankrupt would you easily get another job elsewhere? How much does your financial situation depend on the well-being of your employer? The more dependent you are on your current employer, the more you could reduce risk by diversifying your financial holdings away from your employer, rather than keeping them in company stock options.

What are you going to use the proceeds for?

Using options to pay off debt

If you're wondering about when to exercise, and you're going to use the options to pay off debt, but are thinking of holding onto the options in the hope that the share price is going to rise further; then a good way of looking at it is to ask yourself the question: If I were debt free would I be willing to borrow money to purchase these stock options?

Other opportunities for the money

If you're going to use the money for something else, ask yourself: If I had the cash in my hand now, would I use it to purchase the stock options now, or for something else?

Value of the stock

An important factor is whether you think the stock's fair value is significantly above or below the current value in the stock market. This is a highly subjective matter (if you want 10 opinions ask 10 people), give me shout if you'd like me to share my 2c on the matter.

Dividends

If the stock is paying dividends, and you can exercise your option at any time you want, then look up the dates on which the stock goes ex-dividend and be careful not to lose money by exercising just after the stock goes ex-dividend (assuming dividends aren't factored into the scheme in some way). Be especially careful if there are special dividends being paid.

Tax

Consider tax! This is a topic on its own, but let's consider a situation where you're going to pay capital gains tax on the proceeds. Paying tax later is better than paying tax immediately (as long as the money is in your own hands you can earn investment returns on it).

Investment fees

This is the smallest issue I could think of. Company stock options usually aren't attracting any investment management fees, which might be the case if you used the money to invest with an asset manager. Over a long period of time investment management fees can build up to a considerable amount (e.g. 20% over 20 years).

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