Dealing With Underwater Options: Sinking Or Swimming In The Credit Crunch

Many companies have stock options that are underwater (the exercise price is higher than the current share price). Substantially underwater options are generally a poor incentive because they have no value unless the share price increases dramatically. Having a large "overhang" of underwater options uses up the shares reserved under the option plan, so new options cannot be granted; this prevents a company from implementing new option-based compensation.

There are four approaches to dealing with underwater options.

1. Ride it out
   
2. Cancel options
   
3. Reprice options
   
4. Reprice and compress options
   

1. Ride It Out

If options are not significantly underwater, maintaining existing options and providing some other performance incentives (such as a cash performance bonus) can be a workable solution, particularly if the share price is showing signs of recovery.