What is a cashless option exercise?

A cashless option exercise is a method of exercising a stock option without using cash to pay the exercise price.  Instead of cash, a portion of the shares are used to pay the exercise price.  

There are two methods of a cashless exercise.  The first method is a net settlement, where the company withholds a sufficient number of shares with a fair market value equal to the aggregate exercise price, and such withheld shares constitute payment of the exercise price.  The second method is a sell-to-cover (or same-day sale), where sufficient shares equal to the aggregate exercise price are sold and the proceeds are used to pay the exercise price.  Generally, the second method is available only for companies whose shares are publicly traded, as there is greater complexity to use this method for privately held companies.