Optimal Exercise of Executive Stock Options and Implications for Firm Cost

38 Pages Posted: 13 Dec 2007 Last revised: 10 Jan 2008

See all articles by Jennifer N. Carpenter

Jennifer N. Carpenter

New York University (NYU) - Department of Finance

Richard Stanton

University of California, Berkeley - Haas School of Business

Nancy Wallace

University of California, Berkeley - Real Estate Group

Multiple version iconThere are 3 versions of this paper

Date Written: January 9, 2008

Abstract

Options have become a major component of corporate compensation. Their cost to firms depends on the exercise policies of executives who face hedging constraints. This paper analyzes the optimal policy and option cost for an executive with general concave utility. We show analytically how the policy and cost vary with risk aversion, wealth, and dividend, and when there exists a single stock price boundary. We also provide an example with a split continuation region, and numerical results on volatility and beta effects. Option value decreases with risk aversion, increases with wealth and hedging opportunities, but can actually decline with volatility.

Keywords: Employee stock option, risk aversion, option exercise

Suggested Citation

Carpenter, Jennifer N. and Stanton, Richard H. and Wallace, Nancy E., Optimal Exercise of Executive Stock Options and Implications for Firm Cost (January 9, 2008). Available at SSRN: https://ssrn.com/abstract=1071362 or http://dx.doi.org/10.2139/ssrn.1071362

Jennifer N. Carpenter

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0352 (Phone)
212-995-4233 (Fax)

Richard H. Stanton (Contact Author)

University of California, Berkeley - Haas School of Business ( email )

Haas School of Business
545 Student Services Building #1900
Berkeley, CA 94720-1900
United States
(510) 642-7382 (Phone)
(510) 643-1412 (Fax)

Nancy E. Wallace

University of California, Berkeley - Real Estate Group ( email )

Berkeley, CA 94720-1900
United States

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