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Petitioner, pursuant to broad-based plans (i.e., plans that
offer ESOs to 20 percent or more of a company’s employees),
offered three types of stock option compensation: ISOs, NSOs,
and ESPP purchase rights. All ISOs and NSOs issued by petitioner
were at-the-money. All ESPP purchase rights were issued with an
exercise price equal to 85 percent of the stock’s market price.
Prior to and during the 1997 taxable year, the options were
generally subject to a 5-year vesting period. After 1997,
petitioner decreased the vesting period from 5 to 4 years.
Pursuant to the stock option plan, employees could exercise
options by delivering to petitioner’s broker a notice of exercise
with irrevocable instructions and consideration equal to the
exercise price. The broker would then deliver the instructions
and consideration to petitioner. Employees could elect to
exercise their options in either a “same-day-sale” or “buy-and-
hold” transaction. In a same-day-sale, the employee does not
make a payment for the stock relating to the option. Instead,
simultaneous execution of the option and sale of the stock
results in the excess of the stock’s market price on the grant
date over the exercise price going to the employee and the amount
of the exercise price going to petitioner. In a buy-and-hold
transaction, the employee pays the exercise price by presenting a
check or other form of consideration to petitioner’s broker and
in exchange receives the shares of stock.
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