← Search

Journal of Corporate Finance Vol. 14 No. 5 2008

ESO compensation: The roles of default risk, employee sentiment, and insider information

Charles Chang1; Cheng-Der Fuh2,3; Ya-Hui Hsu4

1 Cornell University · 2 Academia Sinica · 3 National Central University · 4 University of Illinois Urbana-Champaign

Abstract

This paper derives a pricing model for employee stock options (ESO) that includes default risk and considers employee sentiment. Using ESO data from 1992 to 2004, the study finds that the average executive's subjective value is about 55% of the Black-Scholes value. Only employees who over-estimate firm returns (or insiders who know that the firm is under-valued) by about 10% per annum will prefer ESOs over cash compensation. Our model also shows that work incentives offered by ESOs may be far lower than those implied by Black-Scholes but that ESOs may induce less risk-taking behavior, contrary to typical moral hazard arguments. Findings may impact relevant accounting regulations as well as compensation decisions.

DOI
10.1016/j.jcorpfin.2008.08.001
Volume
14
Issue
5
Pages
630-641
Language
en
Sources
openalex crossref bibtex:phds-export.bib

Cite