Like so many companies today, this retailer found itself in the triple dilemma of underwater stock options, high overhang, and limited share availability. (in English, their stock price had fallen below the exercise price of their options, they have so many options outstanding that thy are at their limit and can’t authorize any more, and they have very few authorized shares left for additional option grants). This makes it very tough to attract new talent and keep your best people.

There is no easy solution to this dilemma, but it calls for careful planning and weighing the alternatives. Part of it is an inventory issue: how many shares do you need under what conditions, and how many shares will be available? At what point(s) do you run out of inventory? At what point is it critical to re-supply? How much does the stock price have to rise before people start exercising options, which reduces the overhang and makes it possible to authorize more shares?

Part of the solution is preparing other alternatives to use if necessary. We considered canceling some of the underwater options and replacing them with new options with exercise prices set at the current market. We also considered using restricted stock and/or performance units or shares, which use fewer of the available shares.

A unique analysis conducted for the Board was to determine the trade-off between additional shares and additional performance. By using a sophisticated and proprietary model, we were able to tell the Board that if they authorized 2% more of outstanding stock for options, management would have to generate a specific amount of additional revenue and profit to offset the cost of those additional shares.