# Sally Jameson: Valuing Stock Options in a Compensation Package

Submitted By driver300y
Words 503
Pages 3
Date: MAY 1992
Subject: Valuing stock options in a compensation Package
Purpose: To determine which option worth for Mrs Jameson, and how long should she stay at Telster.

Q1,2: The stock currently trading at \$18.75. (20.25-18.75)x3000=4500. If she choose cash compensation package and if there is no TAX, She will receive \$5000+(5000x3.8%). Obviously it is worth than stock option.

Q3: The options do not vest until the fifth year and the strike price is \$35. What is the price of the 5-year option?
If Jameson chose stock options, she would hold European 3000 call options (early exercise is impossible) on stocks without dividends which give her the right to buy Telstar stocks at the strike price \$35 per share in the 5th year from the date she joins Telstar. The option price is \$2.65. Total value of 3000 call options that Jameson would receive is 3000 x \$2.65 = \$7943 (taxes and transaction costs are ignored), which is option premiums that Jameson can receive if she sells her 3000 granted options.

Q4: If Jameson chose cash compensation package and if there is no tax, she will receive \$5000 today. If she used this money to invest in 5-year T-bills, the future value of her compensation would be worth: \$5000 x 1.0602 = \$5301 in 5 years. \$7943 is worth than \$5301.

If she accepts deal (stock option and job), she should untie her wealth from the fortunes of Telstar by using bull spread strategy, which is to sell identical call options with higher strike price, for instance \$40, to insure her long call position. Buy selling option at \$40 strike price, she can get option premiums. If Telstar’s stock price will not rise to \$35, she will not exercise options granted by Telstar but can get option premiums to compensate her losses from not being able to exercise options. If stock price rises above \$35, she will exercise options granted by Telstar and gain profits =...

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...Sally Jameson: Valuing Stock Options in a Compensation Package By Group 10 1. If we ignore tax consideration and assume that Sally Jameson is free to sell her options at any time after she joins Telstar, which compensation package is worth more? First scenario, if Sally chooses stock options and hold until maturity date. Ignoring the taxation and other constraints, the future value of cash compensation at the end of the 5th year will be 5000 * (1 + 0.0602) ^ 5 = 6697.44. We can easily form the equation 3000 * (P – 35) = 6697.44, where P is the future stock price of Telstar, so the stock price must increase to at least 37.23 at the end of 5th year to get the same amount of the cash compensation and if the stock price where to stay below 35, Sally’ option would be worth nothing. The stock, which pays no dividend and is not expected to pay one in the foreseeable future, is trading at 18.75. It seems significant difference between the exercise price and the spot price. As shown in Exhibit 2, Telstar stock price has increased higher than \$35 only once and 10-year average stock price is around 20. Therefore, the chance that the value of option is greater than the cash compensation is very rare. Second scenario, assume Sally is free to sell options at any time after her joining Telstar, she may sell her option immediately after receiving. Then we try to price the value of stock option by using Black - Scholes Model. We know that the stock is currently trading at \$18.75...

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