Stock options and chief executive officer compensation

Although stock options are commonly observed in chief executive o±cer (CEO) compensation contracts, there is theoretical controversy about whether stock options are part of the optimal contract. Using a sample of Fortune 500 companies, we solve an agency model calibrated to the company-specific data and we find that stock options are almost always part of the optimal contract. This result is robust to alternative assumptions about the level of CEO risk-aversion and the disutility associated with their effort. In a supplementary analysis, we solve for the optimal contract when there are no restrictions on the contract space. We find that the optimal contract (which is characterized as a state-contingent payoff to the CEO) typically has option-like features over the most probable range of outcomes.

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Year of publication:	2007
Authors:	Armstrong, Christopher S. ; Larcker, David F. ; Su, Che-Lin
Publisher:	Evanston : Northwestern Univ., Kellogg Graduate School of Management, Center for Mathematical Studies in Economics and Management Science
Subject:	Stock options \| incentives \| agency model

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Series:	Discussion paper // Center for Mathematical Studies in Economics and Management Science ; 1447
Type of publication:	Book / Working Paper
Type of publication (narrower categories):	Working Paper
Language:	English
Other identifiers:	587664029 [GVK] hdl:10419/31234 [Handle]
Classification:	C61 - Optimization Techniques; Programming Models; Dynamic Analysis ; D82 - Asymmetric and Private Information ; D86 - Economics of Contract: Theory ; J33 - Compensation Packages; Payment Methods ; J41 - Contracts: Specific Human Capital, Matching Models, Efficiency Wage Models, and Internal Labor Markets
Source:	EconStor