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  1. 060A share trades at Rs 50 and there are 100 crore basic shares. Three option tranches are outstanding: 10 crore at a strike of Rs 20, 5 crore at Rs 40 and 8 crore at Rs 60. What is the diluted share count under the treasury stock method?Enterprise value and dilutionHardJefferiesSan Francisco · 2026

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    Before you work it: what is the diluted share count?

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    107 crore diluted shares. Only options with a strike below the Rs 50 share price are exercised. The Rs 20 tranche brings in Rs 200 crore, which buys back 4 crore shares, so it adds 6 crore net. The Rs 40 tranche also brings in Rs 200 crore, buying back 4 crore, so it adds 1 crore net. The Rs 60 tranche is out of the money and adds nothing.

    Why do only some options count?

    An option to buy a share at Rs 60 when it trades at Rs 50 is like a voucher to buy a shirt for more than its shelf price: nobody uses it. Only in-the-money options, those with a strike below the current share price, would be exercised, so only they add shares. Here the Rs 20 and Rs 40 tranches are in the money and the Rs 60 tranche is not. The 8 crore Rs 60 options are ignored today, but they come back into play if the price rises past Rs 60 or a bidder offers more than that.

    Each tranche: options in, shares bought back with the cash, the rest is dilutionTrancheExercise cashBought back at Rs 50Net new shares10 crore at Rs 20in the money10 x Rs 20 = Rs 200 cr200 / 50 = 4 crore+6 crore5 crore at Rs 40in the money5 x Rs 40 = Rs 200 cr200 / 50 = 4 crore+1 crore8 crore at Rs 60out of the money: ignoredstrike above the Rs 50 price: nobody exercises0Share count, crore100 basic= 107 crore dilutedlime: +6 and +1 net from the options
    At a Rs 50 share price the Rs 20 tranche adds 6 crore shares net and the Rs 40 tranche adds 1 crore, after the exercise cash buys back 4 crore shares each, while the Rs 60 tranche adds nothing, so 100 crore basic shares become 107 crore diluted.

    Why does each tranche add fewer shares than its option count?

    When holders exercise, they pay the strike price to the company. The treasury stock methodA way to count dilution that assumes the company uses the cash from option exercises to buy back its own shares at the current price. assumes the company uses that cash to buy back shares at today's price. Each in-the-money tranche adds its option count minus the shares its exercise cash can buy back. The Rs 20 tranche pays 10 crore x Rs 20 = Rs 200 crore, which buys 4 crore shares at Rs 50, so 6 crore net. The Rs 40 tranche pays 5 crore x Rs 40 = Rs 200 crore, again 4 crore bought back, so 1 crore net.

    TrancheIn the money?Exercise cash, Rs croreBought back, croreNet new shares, crore
    10 crore at Rs 20Yes20046
    5 crore at Rs 40Yes20041
    8 crore at Rs 60No0
    Diluted count, with 100 basic107
    Two in-the-money tranches add 7 crore shares net after buybacks, taking the basic 100 crore to 107 crore; the out-of-the-money Rs 60 tranche adds nothing at a Rs 50 share price.
    The relationship
    Net new shares=n(1−KP)10(1−2050)+5(1−4050)=6+1=7\text{Net new shares} = n\left(1 - \frac{K}{P}\right) \qquad 10\left(1 - \tfrac{20}{50}\right) + 5\left(1 - \tfrac{40}{50}\right) = 6 + 1 = 7
    noptions in the tranche, crore
    Kthe strike price of the tranche
    Pthe current share price, Rs 50
    What it says in wordsEach in-the-money tranche adds its option count times the part of the price the strike does not cover.

    Notice what the formula says. The deeper in the money an option is, the closer it comes to a full new share: the Rs 20 tranche dilutes at 60% of its count, the Rs 40 tranche at only 20%. Diluted equity value at Rs 50 is 107 crore x Rs 50 = Rs 5,350 crore, Rs 350 crore above the basic Rs 5,000 crore, and that diluted figure is the one that goes into an enterprise value bridge.

    Where candidates lose it

    The common miss is adding all 23 crore options, or both in-the-money tranches in full, to get 123 or 115 crore. Both ignore that exercise brings cash in, and that the method assumes the cash buys shares back.

    The other miss is forgetting to re-test the Rs 60 tranche in a takeover. At an offer price above Rs 60 it moves into the money, so the share count depends on the price you are testing.

    What the interviewer asks next

    • A bidder offers Rs 70 a share. What is the diluted share count now?
    • How would you treat a convertible bond in the same count?
    • The share count depends on the price, and the price depends on the share count. How do bankers handle that loop in a model?

    Asked at Jefferies, Technology, Media and Telecom (TMT), San Francisco, 2026 (Wall Street Oasis): It was a lot of stock option and technology specific questions.

  2. 085A software company's free cash flow is Rs 130 crore if Rs 30 crore of stock-based compensation is added back as a non-cash charge, and Rs 100 crore if it is treated as a cash cost. With a WACC of 10% and perpetual growth of 3%, how far apart are the two perpetuity values, and which treatment is right?DCF and cost of capitalHardLazardNew York · 2026

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    Which treatment gives the right value for today's shareholders?

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    About Rs 441 crore apart: Rs 1,913 crore with the add-back against Rs 1,471 crore without, a 30% gap. Treat the compensation as a real cost. It is paid in shares rather than cash, but existing holders bear it through dilution. Either deduct it from cash flow and use today's diluted share count, or add it back and count every future share it will create. Adding it back and ignoring the dilution counts the cost as zero.

    If no cash leaves, why is stock compensation a cost?

    Imagine a family business that pays its manager not in salary but by handing over a slice of the shop every year. No cash leaves the till, but each year the family owns less of the shop. Stock compensation is a real expense paid in ownership instead of money, and today's shareholders pay it through dilution. If the company had paid staff Rs 30 crore in cash, everyone would deduct it. Paying in shares changes who bears the cost, not whether there is one.

    The two values follow from the perpetuity formula. With the add-back, 130 x 1.03 / (10% - 3%) is about Rs 1,913 crore. Treated as a cost, 100 x 1.03 / 7% is about Rs 1,471 crore. The gap, about Rs 441 crore, is exactly the present value of paying Rs 30 crore a year, growing at 3%, in shares.

    The gap is the value of the shares you are quietly giving away1,913SBC added back1,471SBC as a cost-441gap = 30 x 1.03 / 7% = 44130% of the lower valueConsistentDeduct SBC as a cost, usetoday's diluted share countConsistentAdd SBC back, then count everyfuture share it will issueWrongAdd SBC back and ignore thedilution: counts the cost as zeroValues are perpetuities, Rs crore: next year's cash flow over (10% - 3%).
    Adding back Rs 30 crore of stock compensation lifts the perpetuity value from Rs 1,471 crore to Rs 1,913 crore, and the Rs 441 crore gap is the present value of the shares handed to staff, so it must be deducted or counted as dilution.

    Can the add-back version ever be right?

    Yes, if you finish the job. Add the Rs 30 crore back, value the firm at Rs 1,913 crore, then recognise that the company will issue Rs 30 crore of new shares every year, growing at 3%, forever. Those future holders own a stream worth Rs 441 crore of the total, leaving Rs 1,471 crore for today's shareholders. Both consistent methods land on the same value for existing holders; the error is adding back the expense and then dividing by today's share count, which counts the cost nowhere. In practice, deducting it is simpler, because projecting every future grant into the share count is hard.

    The relationship
    Vadd−Vded=SBC×(1+g)r−g=30×1.030.07≈441V_{\text{add}} - V_{\text{ded}} = \frac{\text{SBC} \times (1+g)}{r - g} = \frac{30 \times 1.03}{0.07} \approx 441
    SBCstock-based compensation, Rs 30 crore a year
    rWACC, 10%
    gperpetual growth, 3%
    What it says in wordsThe difference between the two values is the present value of paying staff in shares forever.

    One honest limitation: existing options and restricted shares already granted are a separate matter, counted in today's diluted share count by the treasury method. The question here is future grants, which the cash flow treatment decides.

    Where candidates lose it

    The standard slip is saying stock compensation is non-cash, so it is added back like depreciation, and stopping there. Depreciation is the echo of cash already spent; stock compensation is a cost paid now, in a different currency.

    The second loss is saying deduct it without being able to explain why the add-back can be made consistent. Name both consistent routes and the one wrong one: that is the answer an associate-level interviewer is looking for.

    What the interviewer asks next

    • How do already-granted options enter the valuation?
    • If the company buys back shares each year to offset dilution, how does that change the cash flow treatment?
    • Why do many sell-side models still add stock compensation back?

    Asked at Lazard, Investment Banking, New York, 2026 (Wall Street Oasis): SBC treatment in DCF