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Altering the Terms of Executive Stock Options

Author

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  • Menachem Brenner
  • Rangarajan K. Sundaram
  • David Yermack

Abstract

This paper examines the practice of resetting of the terms of previously-issued executive stock options. We identify the properties of the typical reset option, characterize the firms that have reset options, and develop a model to value options that may be reset. In our sample of 396 executives whose options had terms reset in 1992-95 period, a large majority had exercise prices reset to the market price. This resulted in a reduction of the typical option's exercise price by about 40%. Slightly less than half of these options also had their maturities extended, generally receiving a new expiration of 10 years. We find that resetting has a strong negative relationship with firm performance even after correcting for industry performance. Resetting is also significantly more common among small firms than among large firms. However, few other industry- or firm-specific factors appear to matter. Finally, we find that the possibility of resetting does not have a large impact on the ex-ante value of an option award, but the ex-post gain can be substantial.

Suggested Citation

  • Menachem Brenner & Rangarajan K. Sundaram & David Yermack, 1998. "Altering the Terms of Executive Stock Options," New York University, Leonard N. Stern School Finance Department Working Paper Seires 98-010, New York University, Leonard N. Stern School of Business-.
    • Handle: RePEc:fth:nystfi:98-010
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