Where option exercise prices exceed current value, the awards no longer motivate, and companies respond with several mechanisms.
Repricing. Reducing the exercise price of outstanding options. Requires board approval, and in many plans shareholder approval; raises accounting charges; and where incentive options are repriced, the modification is treated as a new grant with a fresh holding period.
Exchange programmes. Cancelling underwater options in exchange for new options at the current price, or for restricted units, usually on a ratio less than one for one. Where the programme is offered broadly to employees, tender offer rules may apply for public companies.
Refresh grants. Additional awards at the current price without cancelling the old ones, which avoids most of the complexity at the cost of additional dilution.
Extension of exercise windows for departing employees, which converts a practical forfeiture into a real benefit and, for incentive options, converts them to non-qualified status after ninety days.
Section 409A considerations, since repricing below fair market value or extending a window can create deferred compensation problems.
Valuation. A current independent valuation supporting the new exercise price is essential, and repricing based on a stale valuation is a tax problem for the employees.
Communication. Employees frequently misunderstand these programmes, and the explanation matters as much as the terms.