Five Questions to Ask about Your Option Exchange Program

Is a falling stock price leaving too many employees with underwater options? You could take Google’s cue and reprice those options, restoring the incentives that help to preserve morale and continue attracting top candidates. Alternatively, you could set up an option exchange.

Before you do, though, answer these five accounting questions to help you decide whether an option exchange is right for your company.

1. Is vesting extended?

If so, expect to encounter cases in which the award won’t vest under the modified terms but would have vested under the original terms. You’ll need to make an accounting policy decision about whether to take a pooled or bifurcated approach. And either way, you’ll need to record the full expense so long as the original vesting is satisfied.

2. Does the modification create incremental cost?

A response in the affirmative complicates the reporting process, especially in the context of a vesting schedule extension.

3. Are many underwater options exchanged for a single new award (many-to-one exchange)?

Again, a “yes” here complicates reporting since you have to reference the pre-modification data for forfeiture true-up, diluted EPS tracking, and deferred tax purposes—but there’s no clean match between pre- and post-modification awards.

4. Will options be exchanged for RSUs?

If so, the reporting process will need to retain “memory” that any pre-adoption option grants would not have given rise to book expense and a corresponding balance sheet DTA. The risk is that the process will identify the post-modification award as an RSU and assume it had always been an RSU.

5. Do you expect strong participation?

Don’t take design lightly. Average tender offer subscription rates are less than 50%, suggesting a mismatch between the program design and employee goals and expectations.

Option exchanges are a more shareholder-friendly way of repricing. But they do have their share of challenges, so carefully consider your goals to make the journey as smooth as possible.

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