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Expected Term

FAS Solutions uses intensity-based Monte Carlo modeling to calculate expected term for our clients. Based on a rigorous econometric analysis of employee exercise and termination data we provide our clients with an unassailable and audit-proof expected term for stock option grants.

We are the pioneers in this methodology of Black-Scholes with Monte Carlo expected term and we believe that we have developed the world’s most extensive and broad-based dataset of cross-company stock option exercise behavior. Whether using own-company data exclusively or cross-company data exclusively (based on over a million exercises at hundreds of companies) or a blend of the two, FAS Solutions produces audit-tested expected term calculations for our many clients – small or large, new IPO, long established, even non-public. Our methodology, which has passed thousands of audits, applies to grant date valuations or for outstanding grants in mid-stream that are no longer “at the money”. The flexibility of Black-Scholes with Monte Carlo expected term allows our clients to rigorously value any time-based stock option with Black-Scholes. This is critical in handling changes to contractual policy (e.g., vesting or contract terms) as well as modification valuations. Our clients no longer feel constrained by SAB 107/110 or other simplified stock administration approaches that typically overstate expense. Of course, stock options with a market condition extend beyond the scope of Black-Scholes. However, the Monte Carlo fair value of such options must be consistent with Black-Scholes valuations for vanilla stock options. Again our intensity-based Monte Carlo technology allows for this consistency.

What is Expected Term?

Employee stock options have contractual terms — often 7 or 10 years — as measured from the grant date to the final maturity date of the option. Between grant and maturity, depending on the anticipated distribution of option exercise and forfeiture, there is an expected term that summarizes uncertainty about the term of the option into a single “average” number. The option term is uncertain because of the inability of employees to market or transfer options. Marketability and transferability constraints cause voluntary early suboptimal exercise by continuing employees or involuntary exercise or forfeiture of vested options by employees departing from the company.

Under ASC 718, expected term is measured conditional on vesting. It is the term expected of an option that will vest for certain. Recall that FASB standards call for modified grant date accounting, which treats forfeiture during the vesting period as a grant level calculation rather than a factor in the valuation of each option. It is therefore important to discriminate between published option valuations that are low because of a discount for pre-vest forfeiture, or even non-transferability relating to the vesting period, and valuations that are compliant with ASC 718. We can think of the definition of expected term consistent with FASB standards as:

  • The anticipated average amount of time that an option is outstanding, assuming it will vest. The amount of time that an option is outstanding is measured from the grant date to the date of option expiration, regardless of whether expiration is the result of early exercise, post-vest forfeiture or cancellation (usually related to departure from the company), or option maturity at the end of the contractual term.

Let FAS Solutions develop the most supportable intensity-based Monte Carlo expected term for your company as we have for each of our client companies from non-public and micro-cap to Fortune 50.