Valuing Employee Stock Options: Does the Model Matter?
Posted: 5 Nov 2004
In this numerical analysis of models for valuing employee stock options, the focus is on the impact of a model on the resulting option prices and the sensitivity of pricing differences between models with respect to changes in the parameters. For most models, the price reduction relative to standard options is uniquely determined by the expected life of the option. In fact, with the exception of the Financial Accounting Standards Board 123 model, pricing differences are negligible if the models are calibrated to the same expected life of the option. Consequently, the application of models with several hard-to-estimate parameters, such as the utility-maximizing model, can be greatly simplified by calibration, because expected life is easier to estimate than utility parameters.
Keywords: Equity Investments: Fundamental Analysis and Valuation Models, Financial Statement Analysis: Financial Accounting Standards and Proposals, Derivatives Instruments: Equity Derivatives
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