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The current state of option exchanges

If you asked a hundred human resource officers what they think about stock option awards, you are likely to get a hundred different opinions. But there is one thing they will all agree on. A stock option award carries retentive and incentive value to executives and employees.

Until it doesn’t.

When facing a situation where the vast majority of option awards are deeply underwater, company leaders meet a challenging dilemma. How can management encourage star executives and employees to stay, when the upside of an existing option grant is too far away for even the most optimistic workforce?

Possible solutions include option repricing, increasing cash compensation, granting additional equity awards, or exchanging options for cash. However, these choices can be dilutive, shareholder unfriendly, and/or expensive.

The decision that some companies have preferred is the option exchange program.
Forty-two option exchange programs have gone to a shareholder vote since the start of 2013, half of which were after the US government declared Covid-19 a public health emergency.

A couple of important questions.

What is an option exchange?

  • A tender offer to employees and/or executives and directors which allows them to trade in their eligible (typically, significantly out of the money) unvested options for a new option or restricted stock on a one-for-one or at a value neutral ratio

What are the benefits to affecting an option exchange?

  • Participants’ new awards will have much greater chance of realizing upside, which may improve retention.
  • There is opportunity to reduce ‘potential dilution’ or overhang.
  • The company will have less pressure to make additional make-whole awards, which would increase compensation expense.

Not all Option Exchanges are the same.

Constructing the appropriate exchange design is very much company to company, and depends on its immediate needs, stock performance, and shareholder base.

Options can be exchanged for any award type, for any term, at any ratio. Eligible participants can include employees, executives or directors. Eligible options can have any strike price minimum.

The below chart notes how companies have designed their proposals over the last two years:

The shareholder equation.

To pass a proposal, analyzing the company’s shareholder base is crucial.

If retail holders dominate the shareholder base; disclosure, outreach, and narrative will be key factors to receiving approval. On the institutional side, ISS, BlackRock, and Vanguard have strict guidelines, and are likely to vote ‘Against’ if the proposal breaches any of their parameters.

Factors important to institutional holders include:

  • Exclusion of executives
  • Value-neutrality
  • Timing relative to the downturn in stock price
  • New vesting terms

To that point, in June of 2022, Iterum Therapeutics (ITRM) attempted to pass a one-for-one option exchange, which included executives. The option exchange program had many features that ITRM’s shareholder base were not supportive of, thus the proposal failed.

Looking forward.

The chart below shows the share price performance of the option exchanging companies from the proposal date to December 2022, relative to the Russell 2000.


The option exchange is an important strategic tool for companies who have experienced a significant share price reduction and it should be considered by boards and management when facing a retention crisis.

Getting shareholder support for an option exchange proposal requires close attention to the guidelines of the shareholder base, and balancing it with the needs of the company. For example, most institutional shareholders will not support an exchange with executives included, but the company may have 90% of the options outstanding held by executives.

Ultimately, the option exchange is about the participants. Although not directly correlated to retention, it is worth noting that since 2021, participants have exchanged 94% of eligible options on average.

If it improves the likelihood that executives and employees will stay through a tough time, both stakeholders and shareholders will benefit.

Please reach out if you have any further questions about this topic.

Article by

Stephen Freyman is a Managing Director a…

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