Gabriel Fenton, Joseph S.Stern III, & Michael Gray, C.P.A.
Employee Stock Options Book ( a FREE Chapter)

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You finally did it. After enduring late nights, long weekends and difficult working conditions, your dream has come true. You’re a millionaire – at least on paper. Your company has rewarded you with substantial holdings in company stock and stock options. With your fortune comes a net worth with two commas, and the ability to buy a new car without negotiating terms. Maybe you’re looking for a new home. Probably, you plan to retire early and be free during the years your parents thought of as their prime.

Congratulations. You are an ascendant example of the new economy.

You have joined the ranks of those who have made fortunes in their company’s stock and stock options. You are a 21st Century optionaire.

In 1996, sixty-two high-tech millionaires were being created every hour, more than half a million that year. By 1999, eight hundred publicly traded companies were giving six million employees company stock options. And that figure does not even reflect the more traditional grants of stock and options to executives.

But for every flashy story of a new, net millionaire, there are numerous untold tragedies. The same optimism that leads to the success often leads to their downfall. Their faith in their own abilities, combined with their emotional investment in their companies’ prospects, sometimes causes them to leave their assets unprotected.

Let us tell you a story. Not long ago, we met with a former, senior software engineer of a company we will call His is a familiar story to us. He was originally granted 100,000 employee stock options, of which 40,000 were vested Incentive Stock Options (ISOs) and 60,000 were Non-Qualified Stock Options (NQSOs) with a cost basis of $1 per share. had its Initial Public Offering (IPO) in June 1997, at a price of $10 per share and closed that day at $93.13. While the stock fluctuated in and out of the $90 trading range for the next several months, the new optionaire remained optimistic about the prospects for his company and did nothing to hedge the downside risk of his concentrated position. In the interim, his wife became pregnant with their first child and they began looking for a starter house for $700,000 in Silicon Valley. Their paper net worth from the employee stock options was roughly $9,000,000.

In March 1998, released earnings at $.27 under Wall Street analyst’s estimates. It turned out that they had a severe flaw in their distribution unit, which many analysts believed to be detrimental to their future growth potential. Several well-known brokerage houses downgraded the stock to a "Sell", and over the next few weeks, the company fell to $2 per share. The engineer’s fortune had virtually disappeared in just a few weeks.

As the year progressed, and the distribution problems persisted, the engineer lost his job. He was forced to exercise his grant of 40,000 ISOs and 60,000 NQSOs within 30 days of his termination. He reluctantly exercised and sold a portion of his shares to cover the cost of the exercise, and held the remaining stock in a last hope that the stock would recover. While this was going on, the engineer made his tax payment, but overlooked the Alternative Minimum Tax (AMT). Once this oversight was recognized, the AMT due was substantially more than he had planned. To make matters worse, he had already taken out a margin loan and made a down payment on his new home. With no cash on hand and’s share price falling, the engineer had to file for bankruptcy.

All of this could have easily been avoided by applying the strategies we will reveal in the following chapters. If the engineer had come to us in time, we would have armed him with protective financial strategies, including the use of put options, portfolio diversification, and prudent tax-avoidance strategies. His company’s stock would still have gone down, but he would not have crashed and burned with it.

In our work as investment advisors and derivative options specialists, we hear stories like this all too often. Optionaires are typically not experts in financial management. A certain heady feeling of invulnerability sometimes comes with sudden wealth. It’s hard for optionaires to believe that the impressive intellectual capital of their companies could fail to negotiate the vagaries of the market. In short, optionaires often gamble without understanding the rules of the game.

Our job is to provide prudent strategies to stabilize the wild roller coaster ride that company stock and stock options often bring. We will cover many of these strategies in the following chapters. However, we must caution the reader that these approaches are not band-aids. They require a willingness to grasp financial realities about which optionaires are often uninformed.

After years of advising clients with these kinds of substantial holdings, we have observed that new optionaires usually wake to find themselves in an overwhelmingly complex position. With millions of dollars of paper net worth tied up in their companies’ stock and options, their financial situation is fraught with many new dangers, such as:

* The possibility of paying several times their salary in taxes.Having their net worth fluctuate thousands to hundreds of thousands of dollars.

* A highly concentrated employee stock and option position, often comprising 70-90% of their liquid net worth.

* An income that has no real value, when compared to the value of their employee stock and options position.

Yet for each of these common problems, there are viable solutions. Our purpose here is not to scare you. It is certainly not to uncover any "secret formula" for beating the employee stock option planning game (there is none). Our goal is to show you sophisticated and proven strategies to help you maximize your employee stock and stock options.

Four Core Principles:

We think of the work that we do as helping individuals to turn their distinctive financial situations into real and lasting wealth. After years in this business, we have distilled the process down to four core principles our understanding of what it takes to turn a large company stock and options position into lasting affluence. They are:

* Realism – being willing to admit that your stock may not grow faster than the broader market or even that it may not go up forever.

* Advanced Planning – having a strategy in place one to two years prior to taking action.

* Hedging – locking in your gains and deferring the tax liability.

* Diversification – reducing your risk (there are other good investments aside from your company stock).

All of the strategies you will learn flow from these principles. If you adhere to these fundamentals, not only will you be well on your way to financial freedom, you will also be able to sleep at night - without nightmares of a market collapse.

We have structured this book in a straightforward, easy-to-understand manner. Some sections, however, are unavoidably technical due to the complexity of the subject matter, and may only be appropriate for the experienced optionaire. Don’t be afraid to skip these sections with the intent of seeking the aid of a qualified financial advisor. Read only the sections that you feel most comfortable with, but please do not become discouraged if you do not fully master every last detail. The book is not intended to be read cover to cover.

Our goals for our readers are similarly practical. When you have completed the book, you will be able to:

(1) Identify and understand what type of employee stock and options you have.

(2) Determine when you should consider exercising your options.

(3) Understand what strategies and actions you should employ for your options.

Additionally, you should be able to avoid making common errors like:

* Exercising the "wrong" type of option, or exercising at an inopportune time.

* Putting tax consequences in front of market conditions.

* Not protecting your paper gains.

We applaud you for your willingness to learn something new, especially something that can be so crucial to your future. We intend to make it as easy on you as possible. One of our motivations in writing this book comes from observing that some of our clients initially try to do their planning themselves, including educating themselves on all of the esoteric aspects of employee stock options. They quickly find themselves overwhelmed. These clients spend so much time trying to research the complexities of employee stock options and managing their investments that they take on, in effect, an extra job. We have found that our clients have more than enough work to do with one job, and should not try to moonlight as options gurus, just as we should not try to moonlight as software engineers. So, we have created this book, in order to make the fundamentals of these strategies accessible.

This book will enable you to intelligently discuss derivative options strategies with your investment advisor, so that together, you can make the right decisions. However, it should not be used as a substitute for a competent financial advisor. By competent, we mean experienced in these particular financial strategies. Most tax attorneys and investment advisors are not experts on this material. It is crucial to find an advisor who specializes in these areas (See Conclusion - "Questions to Ask a Financial Advisor and Other Considerations")

Fear and Greed:

One final cautionary note: Investor psychology is driven by two factors: fear and greed. We assume that if you had the daring to work in a pre-IPO company, or put in extra hours for stock in a major firm, fear is not your problem. But let us caution you about the importance of not being too greedy. Optionaires who apply dangerous strategies, such as leveraging their positions, often find themselves much worse off. It is a wonderful thing to accumulate a substantial amount of wealth in a relatively short period of time. Keep your personal finances and goals in perspective and you will be able to turn that short period into a much longer one.

Having witnessed the highs and lows of compensatory employee stock options, from overnight millionaires to financial disasters, we have concluded that it is one thing to be a millionaire on paper, and quite something else to sustain it. We hope that you will use our experience and knowledge to make the transition from the giddy heights of sudden wealth to lasting security and affluence. And so to you, the 21st Century optionaire, we dedicate this book.

Published by Stillman Publishing, 140 pages, ISBN# 0-9678668-0-4, $39.95 (plus $4 shipping, add $2 shipping for second book order)

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