turning stock options into cash

[nuisance]

My current job gives out stock options, and I have roughly 10k options at $7. I'm considering leaving the company (for life reasons, nothing to do with the work) and I would like to turn those options into cash because they'll go away if I quit. The company isn't public, so I can't just exercise and sell, but the at the last "event" the stock price was $12. I think there is little risk that the company's stock will go down, so I would be OK with exercising and holding for a while until an opportunity to sell the stock comes along. At certain times in the past, select 3rd parties have been given the option to invest in the company, and bought stock, so that's what I'd be waiting for. The problem is, I don't have $70k (plus another $20k for taxes). My thinking is that I should somehow be able to borrow that money, using the exercised stock as collateral. Is that possible? Is there a different way to get something for my options before I quit? (I'm not planning to leave for another year at least.)

I very much value your input here.

Tim

[cute fuzzy bunny]

Short answer: I exercised non-public shares once and made some money. Whole world of things that can go wrong and leave you with nothing more than a nice tax write off at best.

I know one guy who tried to pull it off on a sure thing. Ended up owing a bunch of money, getting hit in the face with AMT, and declaring bankruptcy shortly thereafter.

[clifp]

20 odd years I bought shares in the startup that I was working at from a fellow employee who was exercising his options. There are a lot of restriction on buying stock in non-public companies. The SEC discourages a private company from having a large number of share holder and/or selling them to people with less than a $1 million. As such the collateral value of private stock is very low possibly even zero as far as bank is concerned.

My best suggestion is to set up a meeting with the companies CFO or somebody else involved in the finance department, and tell him that you are interested in selling exercising your options and selling them to a fellow employee or outside investor.

Clif

P.S. I was sure that my companies stock was going nowhere but up, in fact it ended up going basically bankrupt in less than year.

[AltaRed]

Quote:

Originally Posted by clifp P.S. I was sure that my companies stock was going nowhere but up, in fact it ended up going basically bankrupt in less than year.

Too often the employee is the last to know when the company goes bad. Believing you have inside information is probably the most hazardous risk of all. Appearances can be deceiving.

[nuisance]

OK, Clif's reply sounds the most like what I'm asking for. When I give my company notice, I will sit down with a company financial person and see what we can work out.

I do appreciate all your words of warning. I'm pretty confident in the company, but that doesn't really count for anything. I don't know how happy I would be if all that money ended up just disappearing. It may not be worth the risk, and you've certainly helped pointing out the downside to me.

In any case, I'll sit and do nothing until I give notice to the company, and then do some serious head-scratching as to whether this is worth it or not. Meanwhile, I'll be quietly hoping for another cashless exercise opportunity to come along.

Tim

[cute fuzzy bunny]

I was very confident in the company, and a very well trusted company officer told me that "something special" was coming.

Fortunately I sold the stock shortly after it went public, and before the "something special" happened...

(it was bankruptcy)

Hey, if I cant be a beacon of helpfulness, at least I can be a horrible warning...

[clifp]

Quote:

Originally Posted by nuisance OK, Clif's reply sounds the most like what I'm asking for. When I give my company notice, I will sit down with a company financial person and see what we can work out. Tim

Why wait until you give your notice? I see nothing wrong with asking the CFO or equivalent, and saying "Hi I am looking at way of cashing in some of my stock options before the company goes public, because I need the money for a new house/home improvement etc, can you help" It will likely take weeks if not months to find a buyer and the company has some incentive to help you. Once you've told them I am quiting the have no incentive to help, depnding on the companies financial situation they may not even want you to exercise your existing options.

I'd be very reluctant to invest 70K, plus pay 20K in taxes in stock for company that somebody was convinced was only worth $120K, your margin of safety is only 33%. If you sell say 1/2 now that would net you $15K which would give you at least a good chunk of money to use in exercising your options next year.

[Brat]

I strongly suggest you make an appointment with a CPA with experience in this area. There can be tricky tax issues. My DD told me of folks who exercised options on stock, didn't sell. Had to pay income tax on the value of the stock which went belly-up shortly after.

[nuisance]

Quote:

Originally Posted by Cute Fuzzy Bunny I was very confident in the company, and a very well trusted company officer told me that "something special" was coming. Fortunately I sold the stock shortly after it went public, and before the "something special" happened... (it was bankruptcy) Hey, if I cant be a beacon of helpfulness, at least I can be a horrible warning...

It's good to get that warning. The upside is 30k in my pocket. The downside is 90k in the hole. That's a big hole. I think long-term average it's a good move, but the bad case would really suck a lot.

Thanks again,
Tim

[nuisance]

Quote:

Originally Posted by clifp Why wait until you give your notice? I see nothing wrong with asking the CFO or equivalent, and saying "Hi I am looking at way of cashing in some of my stock options before the company goes public, because I need the money for a new house/home improvement etc, can you help" It will likely take weeks if not months to find a buyer and the company has some incentive to help you. Once you've told them I am quiting the have no incentive to help, depnding on the companies financial situation they may not even want you to exercise your existing options.

Hmm... My thinking was that I don't want to tip them off that I'm thinking of quitting by trying to turn my stock options into cash. So presumably the time to do this is after I've gotten my annual raise, but before I let them know I want to leave.

Quote:

I'd be very reluctant to invest 70K, plus pay 20K in taxes in stock for company that somebody was convinced was only worth $120K, your margin of safety is only 33%. If you sell say 1/2 now that would net you $15K which would give you at least a good chunk of money to use in exercising your options next year.

If I had the opportunity, I'd exercise and sell as much as possible, today. All this exercise and hold is just in case such an opportunity doesn't come along before I leave (which will cause the stock options to expire).

Tim

[nuisance]

Quote:

Originally Posted by Brat I strongly suggest you make an appointment with a CPA with experience in this area. There can be tricky tax issues. My DD told me of folks who exercised options on stock, didn't sell. Had to pay income tax on the value of the stock which went belly-up shortly after.

Yet another good point. I know I have to pay income tax on the difference between the stock's value and my exercise cost when I exercise, but there could be other gotchas I haven't thought about.

Tim

[ERD50]

Quote:

Originally Posted by nuisance Yet another good point. I know I have to pay income tax on the difference between the stock's value and my exercise cost when I exercise, but there could be other gotchas I haven't thought about. Tim

Absolutely. You pay income tax on the value when you exercise. If the stock drops and you sell at a loss, you effectively paid income taxes on a gain that you never got a chance to realize. That would hurt for a long, long time.

In the dot com boom/bust there were some really extreme examples of this. One guy exercised something like $4M in options. A year later, the stock was worthless. He owed the feds over $1M and had no money to pay them with because that stock was worthless.

Maybe he could sell T-Shirts ' I exercised my stock options, and all I got was a lifetime of $3000 annual capital gains loss carryover write-offs'.

-ERD50

[free4now]

During the dotcom bust, my roomate lost basically everything on a bad option exercise. The value of his options was somewhere between 1-2 million in the heyday. He exercised and held, but didn't pay the tax right away. He watched the value of the options decline, and sold just around the time the options value was his tax bill. After paying tax, I think he had about $10k left. He soon lost his job and moved out to live with a relative.

I knew another person who exercised and watched their options decline below the tax owed. They were about $70k in debt for taxes and out of work after the dust settled.

Note that the reason these people held their options was that they were Incentive options (ISOs) which have tax incentives for holding. I considered myself lucky that I had non-qualified stock options (NQ) which do not have any tax incentive for holding. Even though ISOs are generally considered to be more desirable for their tax advantages than NQSOs, it seems to me they put many people on the road to hell.

No matter how strongly you believe in the company, the odds are that most small companies fail. Think carefully before going in debt to exercise your options.

[Brat]

Absolutely!!!

Often companies that go the VC route find themselves purchased rather than IPO'd and curse the VC for not maxing their value. Be careful what you wish for....

[Animorph]

Are your options ISO's or NQ's? The tax treatment varies for each of them. You need to know which you have.

For ISO's only the AMT will possibly cause the exercise to be a taxable event. You'll add your paper gain from the exercise to your income for AMT purposes. Then you'll have a separate basis for normal taxes and the AMT. What fun! If your exercise gain is not enough to trigger the AMT for you, then there is no problem. Since you are talking about borrowing the purchase price and a non-public company, I assume this is probably what you have. You are able to recover the AMT taxes up to the difference between your normal taxes and AMT taxes each year, so AMT taxes aren't necessarily maney down the drain.

Watch out if this is a significant portion of your net worth. After you exercise, it's just another stock, though maybe with large untaxed capital gains. Before you exercise, you do have some advantage in leveraging the gains from a large amount of stock with just a small amount of risk (the current value of the options). If the stock price reaches 3x your exercise price, then the value of that leveraging is much less and the option value is more like a normal stock.

I exercised my ISO's fairly early to avoid AMT, before my company went public (actually it was bought), and then held the stock. Even at that point, I had virtually zero cost basis for the shares, so holding delayed taxable capital gains and made them long term. It wasn't worth a whole lot until we were bought, so I didn't have to agonize over having 50% of my net worth tied up in one company until after I had public shares of the new company. There was a 6 month lock-up on those shares however, which is common, so I had the chance to watch them lose 50% of their value during 2000 and 2001. There's a lot of things that can happen, even if your company's prospects look great. The general level of the stock market is another, regardless of how great your one company is.

For NQ's you usually just exercise and sell in the same transaction. You can use part of the sales gain to fund the buy part, so you don't need a loan. There is no special advantage to holding on to the stock after that, since you have no leverage and have fully paid for the stock. Again, before you exercise you have some leverage effect that gets smaller as the share price increases. When it gets to the point that you are risking 75% of the share price in certain gains for 100% of the market price gains, it's acting more like a normal stock and it's time to start thinking of getting out.

Dan

[cute fuzzy bunny]

Does anyone even issue ISO's anymore? Havent heard of any in many years.

[nuisance]

I'm not sure what my options are, and I don't have the paperwork right in front of me. That'll be something else to investigate before I do anything. Thanks again for all your insight. It'll surely help me in making the right decision. (So far, it looks like wait until I get a raise, then see if I can turn any of my options into money. Borrowing to exercise is sounding less and less wise.)

Tim

[Texas Proud]

Dan gave a good analysis....

But, do you have (sorry for the pun) options on your options

I only have options given to all employees, but they allow us to do a cashless exercise. It is where you sell enough shares to pay for the taxes owed. So if you had 1,000 shares, you might end up with 500 you really own after exercising and the other 500 sold an withheld for taxes.