22 This model takes into account the employee exit rate
during the vesting period (thus taking into account the
probabilitythatoptionswillendupunvestedandworthless)
andtheexpectedlifeoftheoptionaftertheygetvested.To
estimate the latter, the model assumes that there will be
exerciseifthestockpricereachesaprespecifiedmultipleof
the exercise price, thus making exercise an endogenous
component of the model, rather than an exogenous
component. The resulting option values are usually lower
than those estimated using the Black-Scholes model.
Simulation Models
ThethirdchoiceforvaluingemployeeoptionsisMonteCarlo
simulationmodels.Thesemodelsbeginwithadistributionfor
stockpricesanda prespecifiedexercise strategy.Thestock
pricesarethen simulatedto arriveat theprobabilities that
employeeoptionswillbeexercisedandanexpectedvaluefor
the options based on the exercise. The advantage of
simulationsisthattheyofferthemostflexibilityforbuilding
in the conditions that may affect the value of employee
options.Inparticular,theinterplayamongvesting,thestock
price,andearlyexercisecanallbebuiltintothesimulation
ratherthanspecifiedasassumptions.Thedisadvantageisthat
simulations require far more information than other models.
Market Prices
Allofthemodelsproposedtovalueemployeeoptionscanbe
contestedas hypotheticaland unrealistic.Infact,thereisa
reasonableargumentthatwhatwewouldreallywanttouseto
valueemployeeoptionsaremarketpricesfortheseoptions.
While this may seem unrealistic, Cisco proposed a novel