Modeling Equity Compensation with Accounting Contingencies

31 Pages Posted: 2 Jun 2012 Last revised: 25 Mar 2014

See all articles by John M. Bizjak

John M. Bizjak

Texas Christian University

Swaminathan L. Kalpathy

Texas Christian University - M.J. Neeley School of Business

Rex Thompson

affiliation not provided to SSRN

Date Written: October 4, 2013

Abstract

Of late, both U.S. and International firms have increased the granting of performance-contingent equity awards to their executive officers. Beyond simple stock options, these awards frequently include accounting-based performance targets. Failure to meet or exceed these targets causes award forfeiture. While now a common component in executive pay, little is known about how to value these instruments. In this paper, we model the expected payoff from an equity award with accounting-based payout conditions. The model incorporates numerous characteristics of awards seen in practice, including the coupling of stock price and accounting targets, multiple accounting targets, sliding payout schedules, and the adoption of both “and” and “or” conditions that trigger payout. We also translate the expected payoff into an approximate present value. Given the growing prevalence of performance-contingent features in executive pay, this exercise is important to academics, board members and shareholders, along with other market participants and regulators.

Suggested Citation

Bizjak, John M. and Kalpathy, Swaminathan L. and Thompson, Rex W., Modeling Equity Compensation with Accounting Contingencies (October 4, 2013). Available at SSRN: https://ssrn.com/abstract=2072276 or http://dx.doi.org/10.2139/ssrn.2072276

John M. Bizjak

Texas Christian University ( email )

Fort Worth, TX 76129
United States
817-257-4260 (Phone)

Swaminathan L. Kalpathy (Contact Author)

Texas Christian University - M.J. Neeley School of Business ( email )

Fort Worth, TX 76129
United States

Rex W. Thompson

affiliation not provided to SSRN

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