Stock Grants vs. Stock Options – the Basics

 Stock Grants vs. Stock Options – the Basics

Both stock grants and stock options are tools which employers use to motivate their employees to keep up the hard work. These tools would align the interests of the employees with that of the shareholders. They benefit the employees when working for a startup that lacks the pay/job security. These two forms of compensation will also discourage employees from quitting their jobs until the options or stocks vest. Options and grants, however, are very different from each other.
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Stock Grants
Stock grants occur when the company pays part of the compensation of the employees in the form of corporate stock. In most instances, there are some restrictions on these granted stocks so that they can be designed to keep the employees working for the company for a set period of time. For example, if the company awards an employee 1000 shares of stock which will vest over two years, the employee will retain the stock only after two years of employment. He will lose the stock if he leaves the company prior to vesting.
When awarded stocks, the employees would have to pay tax on theses stock the same year they were issued. It should be noted that share can only be issued for past, not future, services.

Stock Options
Stock options give the employee the right but not the obligation to buy a set amount of the company’s stocks at a set price within a specified time frame. Stock options are always subject to vesting schedules. In most instances, option agreements expire once an employee leaves the company. As a result, vesting schedules is a great way to induce an employee to stay.
It should be noted that because of the fluctuation of the stock price, stock options can be valued less than the employee cost, making them worthless. By contrast, the net worth of stock grants are much more stable and will not become zero unless the company goes out of business.
Regarding the accounting issues, since 2001, companies have to record the “fair value” of the stock options on the day they are granted, which is recorded as a company expense.

The Advantages of Stock Grants and Stock Options
Both of stock grants and stock options can discourage the employees from quitting through vesting schedules. They are both important for the startup because the company does not need to pay cash directly. As a result, they put less pressure on the cash flow.

The Differences between Stock Grants and Stock Options
One obvious difference has been mentioned above: stock grants are always worth something, however, stock options can be worth nothing at all if the company's share price falls more than expected. Then, what can be done to encourage the employees to stay at the company in this situation? There are two solutions: 1. To keep existing options as is and to issue new options at a new attractive strike price. 2. To cancel old options and to issue new ones (TSXV rules require shareholder approval for this if the company cancels and reissues options within 12 months).

The other side of the argument is equally strong: the returns of stock options can be much higher although they are risky. Therefore, to balance the risk and reward profile of the compensation package, the employer may award some options along with some stock.[1]
From the employee’s perspective, stock options are also more flexible, because, unlike grants, they frequently have an early exercise option, so an employee intending to leave the company can exercise his options before the end of the vesting period and garner some of the benefit without having to stay at the company. [2]
 
Rong Gao is a member of the BLG Business Venture Clinic and is a second-year law student at the Faculty of Law, University of Calgary.
 
 
References
[1] Hunkar Ozyasar, Stock Grants Vs. Stock Options, https://budgeting.thenest.com/stock-grants-vs-stock-options-20564.html
[2] Alice Stuart, Stock Grants Vs. Stock Options, https://finance.zacks.com/stock-grants-vs-stock-options-5440.html