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How do stock options work?

On Behalf of | Dec 29, 2017 | Employment Contracts

As part of their employment contracts with new, upper level recruits, many employers in Rhode Island offer what are called stock options. While many executives and managers may be somewhat familiar with stock options, it may be hard to understand exactly what these are without speaking to an attorney or someone familiar with the world of finance.

As the name implies, a stock option is the right of an employee, at a certain point down the road, to purchase shares in a company’s stock at an agreed upon price. The ultimate purchase price is, at least in theory, supposed to be lower than what someone could get the stock for were they just purchasing it on the open market.

The advantage of a stock option to an employee is that, if they are able to buy stock at below market value, they can turn around and sell it for a profit. For instance, someone who buys 100 shares of stock at the agreed-upon price of $50 for stock that is worth $100 currently effectively makes a bonus of $5,000. Alternatively, the employee can buy the stock and hang on to it as an investment.

Generally speaking, an employee must wait a certain amount of time, called a vesting period, before he or she can actually use the stock options he or she received. Employees who have 401(k)’s may be familiar with this concept of vesting, but it basically prevents an employee from profiting off of a company after only staying there for a short time.

The provisions of an employment contract governing stock options can be quite complicated and hard to understand, which is why they might want to have it reviewed by an experienced employment law attorney.