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Stock option compensation and the likelihood of meeting analysts' quarterly earnings targets

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  • Mark Bauman
  • Kenneth Shaw

Abstract

One role of stock options in executive compensation packages is to counterbalance the inherently short-term orientation of base salary and annual bonuses. Managerial compensation plans frequently include stock options in order to better align the interests of managers and outside shareholders and reduce agency problems. However, since option values are sensitive to fluctuations in stock prices, and investors reward firms that meet or exceed earnings expectations, executives of firms with sizable option components in their compensation plans have increased incentives to report earnings that meet or exceed analysts' forecasts. We show that the propensity to meet or exceed analysts' quarterly earnings forecasts is positively related to the use of options in top executives' compensation plans. Further, firms that employ relatively more options in their compensation plans more frequently report earnings surprises that exceed analysts' forecast by small amounts (between 0 and 1 cent per share). These results suggest that the use of stock-based compensation intensifies top executives' focus on financial analysts' short-term earnings forecasts. Copyright Springer Science + Business Media, Inc. 2006

Suggested Citation

  • Mark Bauman & Kenneth Shaw, 2006. "Stock option compensation and the likelihood of meeting analysts' quarterly earnings targets," Review of Quantitative Finance and Accounting, Springer, vol. 26(3), pages 301-319, May.
    • Handle: RePEc:kap:rqfnac:v:26:y:2006:i:3:p:301-319
    DOI: 10.1007/s11156-006-7435-1
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    Cited by:

    1. Chii-Shyan Kuo & Chandra Subramaniam & Xu Wang & Shih-Ti Yu, 2020. "Adoption of performance-vested equity incentives under investor pressure: window dressing or taking the window of opportunity?," Review of Quantitative Finance and Accounting, Springer, vol. 54(2), pages 565-587, February.
    2. Martin Nienhaus, 2022. "Executive equity incentives and opportunistic manager behavior: new evidence from a quasi-natural experiment," Review of Accounting Studies, Springer, vol. 27(4), pages 1276-1318, December.
    3. Richard Gentry & Clay Dibrell & Jaemin Kim, 2016. "Long–Term Orientation in Publicly Traded Family Businesses: Evidence of a Dominant Logic," Entrepreneurship Theory and Practice, , vol. 40(4), pages 733-757, July.
    4. Hongfei Tang, 2014. "Are CEO stock option grants optimal? Evidence from family firms and non-family firms around the Sarbanes–Oxley Act," Review of Quantitative Finance and Accounting, Springer, vol. 42(2), pages 251-292, February.
    5. Wen-Chun Lin & Shao-Chi Chang, 2012. "Corporate governance and the stock market reaction to new product announcements," Review of Quantitative Finance and Accounting, Springer, vol. 39(2), pages 273-291, August.
    6. James Gong & Siyi Li, 2013. "CEO incentives and earnings prediction," Review of Quantitative Finance and Accounting, Springer, vol. 40(4), pages 647-674, May.
    7. Avishek Bhandari & Babak Mammadov & Maya Thevenot, 2018. "The impact of executive inside debt on sell-side financial analyst forecast characteristics," Review of Quantitative Finance and Accounting, Springer, vol. 51(2), pages 283-315, August.
    8. Kiridaran Kanagaretnam & Gerald Lobo & Robert Mathieu, 2012. "CEO stock options and analysts’ forecast accuracy and bias," Review of Quantitative Finance and Accounting, Springer, vol. 38(3), pages 299-322, April.
    9. Zachary Kaplan & Xiumin Martin & Yifang Xie, 2021. "Truncating Optimism," Journal of Accounting Research, Wiley Blackwell, vol. 59(5), pages 1827-1884, December.
    10. Camillo Lento & Julie Cotter & Irene Tutticci, 2016. "Does the market price the nature and extent of earnings management for firms that beat their earnings benchmark?," Australian Journal of Management, Australian School of Business, vol. 41(4), pages 633-655, November.

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