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Google's Approach to a Potentially Flat Stock Price

By - December 13, 2006

Is to innovate in how to give employees liquidity. Matt Marshall explains it here.

While Google’s stock price defied gravity through January this year — there are strong signs it may stall going forward (see graph below). It means that an employee hired a couple of weeks ago got their options at a price of $500, but now see the stocks valued at $481. If there’s little hope the stock will rise much, what’s the point of staying (aside from the apparently fun work atmosphere, which may be enough for many people, granted)?

That conundrum may be why Google has just introduced the options market, an online trading site that lets Googlers sell their shares to institutional investors — who are often willing to pay more than the current market price for an option to buy those shares in the future.

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3 thoughts on “Google's Approach to a Potentially Flat Stock Price

  1. Kamal Jain says:

    John, together with an intern of mine (Mallesh Pai from Kellogg business school) this summer, we researched the topic of equity compensation to the employees. We looked equity from various viewpoint such as employee’s incentives vs employer’s cost.

    We followed the Black-Schole model for stock price movement. Our simulations resulted in some counted-intutive observations. For an example, options are more meaningful for both employees and employers even for a large company than stock grants. Another observation: giving under-water options is more meaningful for both employees and employers. (Contrast it with various scandals where back-dated options were granted to executives.)

    A small observation we made for the particular problem Google is trying to solve is the following.

    Even though a fraction of the options vest in relatively a short time, typically one year or less, they do not expire for a long time, typically ten years. Therefore when an employee excercises an option he/she loses the time value of the option, which is often significant. Google is hoping that institutional investors will offer the time value of the option to employees. That’s a good thought but in my opinion, Google’s implementation is not the best or the easiest one. I do not know what Google’s contract will be with these institutional investors. Most likely logical assumption is that these investors will have tradeable options. In this case these institutional investors get slightly more than what the employee was getting. The employee had a non-zero probability of leaving the company, therefore forfieting the time value of the options. But a tradeable option has no such risk.

    If Google contracted with the instituional investors to give discounts (in terms of price, time or another parameter) for the probability that an employee might leave Google, then these institutional investor will pay slightly less money to employees. This is unfair with committed employees.

    If institutional investors are not asked to give discount then it is unfair to Google investors.

    Disclaimer: The commentator do not directly own (or short)any Google stocks. Some mutual funds in the commentator’s 401K might have positions on Google stock.

  2. It is not a case of outside investors being prepared to pay above the market value of an option, as stated in the quote. Instead the market proposed by Google exploits the fact that the market value of an option is higher than the intrinsic value. That is the working of the Black-Scholes model mentioned in the previous comment, and that is why options with a strike price lower than the stock price still have value.

  3. Gravies says:

    I cannot keep this page on Mac, have returned to Windows-it awfully
    :)

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