On the Optimality of Resetting Executive Stock Options

38 Pages Posted: 11 Nov 2008

See all articles by Viral V. Acharya

Viral V. Acharya

New York University - Leonard N. Stern School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER); New York University (NYU) - Department of Finance

Kose John

New York University (NYU) - Department of Finance

Rangarajan K. Sundaram

New York University (NYU) - Department of Finance

Multiple version iconThere are 2 versions of this paper

Date Written: December 1999

Abstract

Recent empirical work has documented the tendency of corporations to reset strike prices on previously-awarded executive stock option grants when declining stock prices have pushed these options out-of-the-money. This practice has been criticized as counter-productive since it weakens incentives present in the original award.We find that although the anticipation of resetting will typically result in a negative effect on initial incentives, resetting can still be an important, value-enhancing aspect of compensation contracts, even from an ex-ante standpoint. Indeed, we find a precise sense that some resetting is almost always optimal. We also characterize the conditions that affect the relative optimality resetting. We find, for example, that the relative advantages of resetting decrease as managerial ability to influence the resetting process increases, as the relative importance of external (industry-or economy-wide) factors in return generation increase, and as the direct or indirect cost of replacing the incumbent manager decrease. Our analysis, in summary, that the case against resetting is quite weak.

Suggested Citation

Acharya, Viral V. and John, Kose and Sundaram, Rangarajan K., On the Optimality of Resetting Executive Stock Options (December 1999). NYU Working Paper No. FIN-99-087. Available at SSRN: https://ssrn.com/abstract=1299460

Viral V. Acharya (Contact Author)

New York University - Leonard N. Stern School of Business ( email )

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HOME PAGE: http://pages.stern.nyu.edu/~sternfin/vacharya/public_html/~vacharya.htm

Centre for Economic Policy Research (CEPR)

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United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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New York University (NYU) - Department of Finance

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Kose John

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

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0337 (Phone)
212-995-4233 (Fax)

Rangarajan K. Sundaram

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

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0308 (Phone)
212-995-4233 (Fax)

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