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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

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.

Suggested Citation

  • Hayes, Rachel M. & Lemmon, Michael & Qiu, Mingming, 2012. "Stock options and managerial incentives for risk taking: Evidence from FAS 123R," Journal of Financial Economics, Elsevier, vol. 105(1), pages 174-190.
    • Handle: RePEc:eee:jfinec:v:105:y:2012:i:1:p:174-190
    DOI: 10.1016/j.jfineco.2012.01.004
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    More about this item

    Keywords

    Compensation; Incentives; Risk taking; Corporate governance; FAS 123R;
    All these keywords.

    JEL classification:

    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • G38 - Financial Economics - - Corporate Finance and Governance - - - Government Policy and Regulation
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects

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