Description
How is it possible for an employee stock option to be valuable even if the firm’s stock price fails to meet shareholders’ expectations?
Explanation & Answer
Stock
options are in essence the right to buy a specified number of shares at a
specified price (known as the "strike price") within a specified period
of time. If at any given point the current price of a share of stock
is higher than the strike price, the options have value. Both stock
price and shareholder expectations tend to fluctuate, and not always in
the same direction at the same time, so it's quite normal for the two to
be at least temporarily out of alignment.
Think of it this way. The value of the options is based on the
difference between the current stock price and the strike price, while
shareholder expectations are based on what shareholders collectively
thought the stock should or would be worth. If a share of stock is
worth more than the strike price, but less than the shareholders were
expecting, it would result in the situation you describe.
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