Equity 101

Options

What Is a Strike Price?

Wed Jun 22 2022

5 min read

what is a strike price

Key takeaways

  • Your strike price is equivalent to the fair market value (FMV) of the company’s common stock shares on your grant date.

  • A strike price is what you pay per option when you exercise the options. 

  • Typically the earlier you start in a company’s life, the lower your strike price.

  • If you have multiple option grants, you may also have multiple strike prices. 


Your start date matters

A short tale of two friends. 

Julie started working at a startup right before the company finalized its Series A fundraising, and she received a grant of 10,000 shares with a strike price of $0.10/share. 

Ernesto joined the company one year later, after the company raised a Series B round, in a similar role, and also received a grant of 10,000 shares; however, his strike price was $0.40/share. 

Even though they have the same number of shares, you can already tell the strike price is going to have a big impact on how Julie and Ernesto handle their equity.

If they both choose to exercise all their options on the same day, Julie will spend $1,000 to exercise all 10,000 options and Ernesto will spend $4,000. And when the day comes that they both decide to sell their shares at the same time for the same price, Julie will make more money than Ernesto because of her lower strike price. 

While it may seem skewed on paper, it’s all part of the risk-reward dynamic that comes with being a startup employee.

👉 What's your risk tolerance? The earlier you start, the more risk you take—but the more reward you could see down the road.

What is a strike price?

So, what exactly is a strike price — also known as an exercise price — and how can it vary so much? 

A strike price is a predetermined price at which a company is contractually obligated to sell its stock to a specific employee. When someone is granted stock options as a part of their employee benefits package, their equity grant specifies their strike price. That price is determined by the common stock’s fair market value (FMV) on the day the options are granted. 

Generally, assuming the company does reasonably well, the strike price is lower than what the company’s common stock will be worth in the future — which is where the opportunity to generate wealth exists for startup employees.

👉 A strike price is a predetermined price at which a company is contractually obligated to sell its stock to a specific employee. It will remain the same for you for that grant.

The good news for employees is that it doesn’t matter how much the company’s value grows — the strike price always remains the same as the day the options were granted.

Where can you find your strike price?

You’ll want to ask when you receive an equity offer.  Additionally, your initial stock option grant agreement will specify how many options you have, your strike price, and your vesting schedule. 

👉 Read your stock option grant closely to make sure you understand the terms. Use the Equity Fairness Calculator to make sure it stacks up against competitors.

Remember, most equity grants are subject to vesting. Until equity — in whatever form it has been granted — has started to vest the company can take it back, so it's not really yours yet. "Vesting" means the release of the company's take-back right, and a "vesting schedule" is the schedule according to which that release happens.

How are strike prices calculated?

There are two ways that strike prices can be calculated and the method used depends on what type of company you work for — public or private.

  • Public. The strike price for public companies is determined by the publicly traded share price as of the day the stock options are granted.

  • Private. Because private companies don’t offer shares publicly, common stock share value is determined by the FMV, which itself is typically determined by a 409A valuation conducted by a private appraiser. 

When it comes to 409A valuations, companies usually conduct these once a year or whenever they go through a new round of funding. In some cases, companies may request a 409A valuation more than once in a given year, like if they are starting to prepare to enter the public markets.

Exercising and your strike price

Most employees wait to exercise until they are leaving the company. In this scenario, when an employee is ready to purchase shares of their company, they will exercise their stock options by paying the strike price multiplied by the number of options that have vested. 

If they make a profit (i.e. a paper gain) because the shares they bought now have a higher FMV than their strike price, they may need to pay taxes on the difference. 

👉 Want to know how your strike price can affect your alternative minimum tax (AMT)? You can use our AMT Tax Calculator for ISO Options to figure out what your AMT might be with your specific strike price if you choose to exercise your options.

If the strike price on an employee’s stock options is very low — say, less than a dollar per share — they might consider exercising as soon as the grant is issued in what’s called an early exercise, so long as the employee’s grant allows them to do so. The primary reason to do so is if the strike price and FMV are the same, in which case the employee won’t pay taxes on the difference (as the difference is zero.) 

👉 Before you early exercise, check the company’s policy for repaying your upfront investment if you leave the company and have unvested shares.

What if your strike price is higher than the value of the shares?

While this is a less cheerful scenario, this does occur. (Hello, mid-year 2022!)

For example, let’s say you join a company and get stock options with a strike price of $6.50/share. Nine months later, fundraising leads to a down round, or the market tanks, and the FMV common share price drops to $6/share. This would mean those stock options are underwater. You probably wouldn’t want to exercise them at that time unless you’re willing to take a risky bet.

However, there are some exceptions. For instance, if you know the down round is a function of market forces, rather than company value, this could present an opportunity to save on taxes. Make sure you talk to your accountant to determine what makes the most sense for you.

Another factor is your post-termination exercise window.  If you have a long post-termination exercise window, say 10 years, then there is ample time to wait and see if the share price recovers.

This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for investment, tax, legal, accounting, or other professional advice. Vested does not provide investment, tax, legal, accounting, or other professional advice. You should consult your own investment, tax, legal, accounting, or other professional advisors before engaging in any transaction or equity decision.


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