Dividends paid on the underlying stock decrease the option s value. The employee doesn t receive any dividends until he or she exercises the option, and the earnings paid out aren t available to fund further growth, which would enhance the stock price. The leverage the employee gets from owning the stock option. Leverage comes into play because the employee either gets an option as a gift or buys it for less than the market value per share of common stock. As a result, any appreciation is greater for the option than for the stock itself.
Proper timing is vital in exercising options.
Generally, postponing the exercise makes sense because the necessary outflow of cash is deferred. Option holders benefit from the appreciation of the stock without the requisite cash outlay normally associated with a stock investment. Also, waiting defers the requirement to pay income tax at ordinary income tax rates on the exercise of nonqualified options. Sometimes, though, stock option holders discover that they don t have enough financial liquidity to exercise the options. Thus, their options may expire before they can take action.