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Should Executive Stock Options Be Abandoned?

Author

Listed:
  • Chongwoo Choe

    (Australian Graduate School of Management, UNSW, Sydney, NSW 2052.)

  • Xiangkang Yin

    (School of Business, La Trobe University, VIC 3086.)

Abstract

Recent corporate scandals around the world have led many to single out executive stock options as one of the main culprits. More corporations are abandoning stock options and reverting to restricted stock. This paper argues that such a change is not entirely justifiable. We first provide a critical review of the pros and cons of executive stock options. We then compare option-based contracts with stock-based contracts using a simple principal-agent model with moral hazard. In a general environment without restrictions on preferences or technologies, option-based contracts are shown to weakly dominate stock-based contracts. The weak dominance relation becomes strict if the manager is risk neutral. Numerical examples are provided to show that, even if the manager is risk averse, strict dominance is more likely the case.

Suggested Citation

  • Chongwoo Choe & Xiangkang Yin, 2006. "Should Executive Stock Options Be Abandoned?," Australian Journal of Management, Australian School of Business, vol. 31(2), pages 163-179, December.
    • Handle: RePEc:sae:ausman:v:31:y:2006:i:2:p:163-179
    DOI: 10.1177/031289620603100201
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    References listed on IDEAS

    as
    1. Lisa Meulbroek, 2001. "The Efficiency of Equity-Linked Compensation: Understanding the Full Cost of Awarding Executive Stock Options," Financial Management, Financial Management Association, vol. 30(2), Summer.
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    6. Choe, Chongwoo, 2003. "Leverage, volatility and executive stock options," Journal of Corporate Finance, Elsevier, vol. 9(5), pages 591-609, November.
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    14. Chongwoo Choe, 2001. "Maturity and exercise price of executive stock options," Review of Financial Economics, John Wiley & Sons, vol. 10(3), pages 227-250.
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    Cited by:

    1. Robert E. Marks, 2007. "The Old Order Changeth," Australian Journal of Management, Australian School of Business, vol. 32(2), pages 0-3, December.
    2. Mahmoud Agha, 2016. "Agency costs, executive incentives and corporate financial decisions," Australian Journal of Management, Australian School of Business, vol. 41(3), pages 425-458, August.
    3. Jamie Alcock & Godfrey Smith, 2017. "Non-parametric American option valuation using Cressie–Read divergences," Australian Journal of Management, Australian School of Business, vol. 42(2), pages 252-275, May.
    4. Jacob M. Rose & Alisa G. Brink & Carolyn Strand Norman, 2018. "The Effects of Compensation Structures and Monetary Rewards on Managers’ Decisions to Blow the Whistle," Journal of Business Ethics, Springer, vol. 150(3), pages 853-862, July.
    5. Elizabeth N. K. Lim, 2015. "The role of reference point in CEO restricted stock and its impact on R&D intensity in high-technology firms," Strategic Management Journal, Wiley Blackwell, vol. 36(6), pages 872-889, June.
    6. Alberto Razul & Orlando Gomes & Mohamed Azzim Gulamhussen, 2024. "Bonuses, options, and bank strategies," SN Business & Economics, Springer, vol. 4(1), pages 1-28, January.

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    More about this item

    Keywords

    EXECUTIVE STOCK OPTIONS; RESTRICTED STOCK; OPTIMAL CONTRACT;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • J33 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Compensation Packages; Payment Methods

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