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UK Executive Stock Option Valuation: A Conditional Model

Author

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  • Edward Lee
  • Konstantinos Stathopoulos
  • Konstantinos Vonatsos

Abstract

We value UK executive stock options (ESOs) as American options that are awarded conditional on the probability of the holders achieving some performance criteria. Unlike the standard Black and Scholes (BS) model, which is universally used both in the literature and practice, this provides a more realistic representation of UK ESOs. We show that UK ESOs actually have less value and contain more incentives than they appear under the BS approach. Specifically, we observe a 17 per cent average discount in the value of the ESOs when compared to their BS value. In addition, we find significantly higher incentive levels when we measure the sensitivity of the options using the hedge ratio, i.e. the option's delta. We argue that these findings have implications for two contemporary debates in the UK, i.e. the substitution of ESOs by Long‐Term Incentive Plans (LTIPs) and the discounting of ESO value from company profits.

Suggested Citation

  • Edward Lee & Konstantinos Stathopoulos & Konstantinos Vonatsos, 2007. "UK Executive Stock Option Valuation: A Conditional Model," Corporate Governance: An International Review, Wiley Blackwell, vol. 15(6), pages 1469-1479, November.
    • Handle: RePEc:bla:corgov:v:15:y:2007:i:6:p:1469-1479
    DOI: 10.1111/j.1467-8683.2007.00658.x
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    References listed on IDEAS

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    Cited by:

    1. Minhat, Marizah & Abdullah, Mazni, 2016. "Bankers’ stock options, risk-taking and the financial crisis," Journal of Financial Stability, Elsevier, vol. 22(C), pages 121-128.

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