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Option-Based Pay with Overvalued Equity

Linus Wilson
University of Louisiana at Lafayette

Yan Wu
Wilfrid Laurier University

February 2009

Abstract:
This study solves the optimal managerial compensation problem when shareholders are either naively optimistic or rational. The results suggest that boards of directors should decrease option grants to CEOs when equity is likely to be irrationally overvalued at the date when the CEO's options vest. The implications of the model are consistent with the available empirical evidence. In addition the model generates new testable predictions about managerial fraud, the number of options granted, and the magnitude of the options' strike prices that have not yet been formally tested.

Keywords: behavioral finance, CEO, executive compensation, fraud, options, strike price

JEL Classifications: G32, G34, J33, M52

Working Paper Series

Date posted: September 11, 2008 ; Last revised: February 17, 2009

Suggested Citation

Wilson, Linus and Wu, Yan, Option-Based Pay with Overvalued Equity (February 2009). Available at SSRN: http://ssrn.com/abstract=1265827

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Contact Information

Linus Wilson (Contact Author) University of Louisiana at Lafayette ( email ) Department of Economics & Finance P. O. Box 44570 Lafayette, LA 70504-4570 United States (337) 482-6209 (Phone) (337) 482-6675 (Fax) HOME PAGE: http://www.linuswilson.com
Yan Wu Wilfrid Laurier University ( email ) 75 University Avenue West Waterloo, Ontario N2L 3C5 Canada

Abstract

References (30)

Date posted: September 11, 2008 ; Last revised: February 17, 2009

Suggested Citation

Contact Information

Linus Wilson (Contact Author)

Yan Wu