A Comparison Of Options, Restricted Stock, And Cash For Employee Compensation

A Comparison of Options, Restricted Stock, and Cash
for Employee Compensation
Paul Oyer and Scott Schaefer
September 4, 2003
Abstract
Using a detailed data set of employee stock option grants, we compare observed stock-optionbased
pay plans to hypothetical cash-only or restricted-stock-based plans. We make a variety
of assumptions regarding the possible bene ts of options relative to cash or stock, and then
use observed option grants to make inferences regarding rms' decisions to issue options to
lower-level employees. If the favorable accounting treatment is the sole reason underlying rms'
choices of options over cash-only compensation, then we estimate that the median rm in our
data set incurs $0.64 in real costs in order to increase reported pre-tax income by $1. This gure
is several times larger than the willingness-to-pay for earnings reported by Erickson, Hanlon and
Maydew (2002), who study rms that (allegedly) commit fraud in order to boost earnings. If,
on the other hand, rms' option-granting decisions are driven by economic-pro t maximization,
then observed stock option grants are most consistent with explanations involving attraction
and retention of employees.
Oyer: Graduate School of Business, Stanford University, [email protected] Schaefer: Kellogg School of
Management, Northwestern University, [email protected] We thank Corey Rosen and Ryan Weeden for
providing the NCEO data. We thank Rachel Hayes, Kevin J. Murphy, Madhav Rajan, Stefan Reichelstein and Je
Zwiebel for valuable discussions.
1 Introduction
Employee stock options have generated substantial media and political attention recently, thanks
largely to the ongoing policy debate about ...
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