Employee Stock Option Fair-Value Estimates: Do Managerial Discretion and Incentives Explain Accuracy?

Posted: 14 Jul 2006

See all articles by Leslie D. Hodder

Leslie D. Hodder

Indiana University - Kelley School of Business - Department of Accounting

William J. Mayew

Duke University - Fuqua School of Business

Mary Lea McAnally

Texas A&M University - Department of Accounting

Connie D. Weaver

Texas A&M University - Department of Accounting

Multiple version iconThere are 2 versions of this paper

Abstract

We examine the determinants of managers' use of discretion over employee stock option (ESO) valuation-model inputs that determine ESO fair values. We also explore the consequences of such discretion. Firms exercise considerable discretion over all model inputs and this discretion results in material differences in ESO fair-value estimates. Contrary to conventional wisdom, we find that a large proportion of firms exercise value-increasing discretion. Importantly, we find that the use of discretion improves predictive accuracy for about half of our sample firms. Moreover, we find that both opportunistic and informational managerial incentives together explain the accuracy firms' ESO fair value estimates. Partitioning on direction of discretion improves our understanding of managerial incentives. Our analysis identifies that financial statement readers can use mandated contextual disclosures to construct powerful ex ante predictions of ex post accuracy.

Keywords: Employee stock options, Black-Scholes, managerial discretion, accounting contextual disclosures

JEL Classification: M41, M45, J33, G30, G13

Suggested Citation

Davis Hodder, Leslie D. and Mayew, William J. and McAnally, Mary Lea and Weaver, Connie D., Employee Stock Option Fair-Value Estimates: Do Managerial Discretion and Incentives Explain Accuracy?. Contemporary Accounting Research, Vol. 23, No. 4, Winter 2006. Available at SSRN: https://ssrn.com/abstract=914530

Leslie D. Davis Hodder

Indiana University - Kelley School of Business - Department of Accounting ( email )

1309 E. 10th Street
Bloomington, IN 47405
United States

William J. Mayew

Duke University - Fuqua School of Business ( email )

Box 90120
Durham, NC 27708-0120
United States
919-660-7781 (Phone)
919-660-7971 (Fax)

HOME PAGE: http://www.fuqua.duke.edu/faculty/alpha/mayew.htm

Mary Lea McAnally (Contact Author)

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States
979-845-5017 (Phone)
979-845-0014 (Fax)

Connie D. Weaver

Texas A&M University - Department of Accounting ( email )

430 Wehner
College Station, TX 77843-4353
United States

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