Employee Stock Options

The following question and answer by Sheikh Yusuf Talal DeLorenzo attendees of the Dow Jones University Courses on Islamic Investement.Question:: What is the Islamic view on employee stock options?Answer: This is one which many Muslims puzzle over, and with good reason. To begin with, the term "options" often leads to confusion because most Muslims recognize it as perhaps having to do with the options market; and the buying and selling of options is clearly prohibited owing to the element of uncertainty, or gharar, at the time of contracting. (For a detailed discussion of gharar, see: "Lesson Two, Riba and Gharar").Secondly, people may have questions about the way a typical corporate stock option actually works. I'll outline the general idea below: In order to reward performance, or to motivate employees to work harder, the company willoffer an employee the option of 100 shares at a set price (strike price) which is usually not the same as the market price. Generally, the offer will be valid for a certain period of time (exercise period), a number of years or a number of days from the time an employee leaves the company. The employee can:

  1. Do nothing - the employee pays nothing and receives nothing.
  2. Exercise the option by buying the shares and selling them at market value, gaining the difference, less commissions, in cash.
  3. Buy all shares at the strike price, and keep them for the future.
  4. Sell enough of the shares at market price to and keep the rest of the shares for the future.
Under these circumstances, the "option" is actually an offer, because the price is fixed.The word "option" refers to the fact that the company has given its employee a choice, orchoices, either to buy the stock and hold it, or to sell it, or a combination of the two.Under these circumstances there is nothing wrong with an employee opting to buy the stock...but only on condition that the company is Shari`ah compliant or, in other words, satisfiescertain financial criteria. Chief among these criteria is that the company must be engagedin a primary business that is halal... companies engaged in riba as their primary business,like most companies in the financial sector, are definitely out of bounds for Musliminvestors. The same is true of companies that produce or sell alcohol, tobacco, pork products, so-called "adult entertainment", and so on. So a Muslim investor must be careful about where his/her investment funds are placed. There are also secondary considerations, some of which are concerned with the extent to which a company is involved in riba, through corporate borrowing, or non-operating interest income, and some of which are concerned with accounts recievable. These are refered to as secondary Shari`ah screens; and the Shari`ah Supervisory Boards (SSB) of most Islamic funds have given opinions regarding these screens. Many Islamic funds have adopted the criteria set by the SSB of the Dow Jones Islamic Market Index; because those screens are the most stringent and also the most closely and accurately monitored. Then, the short answer to the question of whether or not Muslims may exercise stock options when these are offered to them by the companies they work for is yes. And the reason that this is lawful is that the "option" is actually an offer; when the essential elements of any sale are an offer (ijab) and its acceptance (qabul).