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Stock options and managerial incentives for risk taking: Evidence from FAS 123R

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  • Hayes, Rachel M.
  • Lemmon, Michael
  • Qiu, Mingming
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    Abstract

    We provide new evidence on the relation between option-based compensation and risk-taking behavior by exploiting the change in the accounting treatment of stock options following the adoption of FAS 123R in 2005. The implementation of FAS 123R represents an exogenous change in the accounting benefits of stock options that has no effect on the economic costs and benefits of options for providing managerial incentives. Our results do not support the view that the convexity inherent in option-based compensation is used to reduce risk-related agency problems between managers and shareholders. We show that all firms dramatically reduce their usage of stock options (convexity) after the adoption of FAS 123R and that the decline in option use is strongly associated with a proxy for accounting costs. Little evidence exists that the decline in option usage following the accounting change results in less risky investment and financial policies.

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    File URL: http://www.sciencedirect.com/science/article/pii/S0304405X12000050
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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 105 (2012)
    Issue (Month): 1 ()
    Pages: 174-190

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    Handle: RePEc:eee:jfinec:v:105:y:2012:i:1:p:174-190

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Compensation; Incentives; Risk taking; Corporate governance; FAS 123R;

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    References

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    Cited by:
    1. Gormley, Todd A. & Matsa, David A. & Milbourn, Todd, 2013. "CEO compensation and corporate risk: Evidence from a natural experiment," Journal of Accounting and Economics, Elsevier, vol. 56(2), pages 79-101.
    2. Allgood, Sam & Farrell, Kathleen A. & Kamal, Rashiqa, 2012. "Do boards know when they hire a CEO that is a good match? Evidence from initial compensation," Journal of Corporate Finance, Elsevier, vol. 18(5), pages 1051-1064.
    3. Pryshchepa, Oksana & Aretz, Kevin & Banerjee, Shantanu, 2013. "Can investors restrict managerial behavior in distressed firms?," Journal of Corporate Finance, Elsevier, vol. 23(C), pages 222-239.
    4. Alderson, Michael J. & Bansal, Naresh & Betker, Brian L., 2014. "CEO turnover and the reduction of price sensitivity," Journal of Corporate Finance, Elsevier, vol. 25(C), pages 376-386.
    5. Shen, Carl Hsin-han & Zhang, Hao, 2013. "CEO risk incentives and firm performance following R&D increases," Journal of Banking & Finance, Elsevier, vol. 37(4), pages 1176-1194.

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