The Determinants and Consequences of Changes in Executive Option-Based Compensation Around the Issuance of SFAS 123R

59 Pages Posted: 6 Sep 2007 Last revised: 1 Apr 2014

See all articles by Lawrence D. Brown

Lawrence D. Brown

Temple University - Department of Accounting

Yen-Jung Lee

National Taiwan University

Date Written: August 1, 2007

Abstract

We investigate the causes and consequences of changes in option-based compensation for the top five executives around the issuance of SFAS 123R, which requires firms to expense the fair value of their employee stock options (ESOs) on their income statements. We hypothesize that firms with greater tendencies to substitute ESOs for other forms of compensation to report higher earnings pre SFAS 123R cut back more on ESOs. Consistent with our hypotheses, we find that reduction in the proportion of total compensation paid in ESOs increased in the firm's propensity to take advantage of ESOs' favorable accounting as proxied by debt contracting concerns, tendency to achieve earnings benchmarks using ESOs' favorable accounting treatment, corporate governance weakness, and if the firm accelerated vesting of outstanding ESOs in response to SFAS 123R. We show that firms replaced ESOs with restricted stock post SFAS 123R, but the substitution was less than dollar for dollar. We also find that ESO cutbacks around the issuance of SFAS 123R reduced abnormal compensation without harming firms' operating performance.

Keywords: Employee stock options, SFAS 123R, Executive compensation

JEL Classification: G32, M41, M44, M52, J33

Suggested Citation

Brown, Lawrence D. and Lee, Yen-Jung, The Determinants and Consequences of Changes in Executive Option-Based Compensation Around the Issuance of SFAS 123R (August 1, 2007). AAA 2008 Financial Accounting and Reporting Section (FARS) Paper. Available at SSRN: https://ssrn.com/abstract=1012306 or http://dx.doi.org/10.2139/ssrn.1012306

Lawrence D. Brown

Temple University - Department of Accounting ( email )

Philadelphia, PA 19122
United States

Yen-Jung Lee (Contact Author)

National Taiwan University ( email )

Department of Accounting
No.1, Roosevelt Road, Sec. 4
Taipei 10617
Taiwan
33661110 (Phone)

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