Academic journal article Management Revue

Broad-Based Employee Stock Options in the U.S. - Company Performance and Characteristics**

Academic journal article Management Revue

Broad-Based Employee Stock Options in the U.S. - Company Performance and Characteristics**

Article excerpt

This paper analyses data on 490 companies with broad-based stock option plans, matched to data from CompuStat in order to compare their characteristics and performance to that of other public companies. Major findings are that 1) companies with broad-based plans have higher levels of labor productivity, employment growth, and sales growth than otherwise-similar firms; 2) productivity and profitability levels rise as broad-based plans are adopted, and 3) average compensation levels are higher among such companies both before and after the introduction of broad-based plans, indicating that stock options appear to come on top of other compensation.

Key words: Broad-based Stock Options, Firm Performance, Wage Effect

There is a growing body of research that finds the Anglo-American model of variable compensation to be emerging as the dominant model for variable compensation worldwide (Ferrarini/Moloney/ Vespro, 2003). The use of stock options and other forms of equity compensation for executives and a broader set of employees has become increasingly common across Europe (Mercer, 2006). Due to poor stock options plan design, the accounting controversy, and in the case of the recent grant date backdating scandal, stock options in the U.S. have never fulfilled their promise. If Europe is to learn from the mistakes of the U.S., it is necessary to understand when and where stock options generally and broadly distributed stock options specifically, constitute an efficient incentive contract.

There is an increasing body of research which shows that stock options are associated with greater firm performance when broadly distributed to employees (Core/Guay 2001; Gerhart/Milkovich 1990; Ittner/Lambert/Larcker 2003; Kroumova/Sesil/Kruse/Blasi 2002; Sesil/Kroumova/Blasi/Kruse 2002). Much of this research, however, focuses on the use of broad-based stock options in high-technology industries, where they may play a special role encouraging knowledge-sharing and promoting innovation (Ittner et al., 2003; Sesil et al. 2002). The extent to which broadbased stock options have effects among other types of firms remains unknown.

In addition, there is no research on the impact that broad-based stock options have on employee-level outcomes such as compensation levels or employee turnover. Over the last twenty years, a shift has taken place towards compensating employees with variable and equity compensation (Sesil/Kruse/Blasi 2003). In light of the collapse or precipitous decline in the share prices of companies like Enron and WoddCom many employees at these companies found themselves in possession of worthless or near worthless stock. A crucial question diat needs to be addressed in research is if broad-based stock options are a complement or a substitute to fixed wages.

The purpose of this paper is to shed light on these two research questions: What impact do broad-based stock options have in firms in general (not just high technology firms), and, What is the relationship between broad-based stock option plans and employee wages? For the purposes of diis paper, broad-based stock option companies are defined as those that make more than 50% of their non-management employees eligible for stock option grants. A detailed empirical analysis is conducted, comparing the economic and financial performance of companies that grant broad-based stock options to the performance of companies that do not use stock options in their compensation package. We use profitability (ROA), productivity, Tobin's Q and wages as our dependent variables and also evaluate trends in shareholder returns.

We provide evidence here diat broadly distributed stock options are associated with superior levels of firm productivity and profitability, and Tobin's q but we do not find any evidence of growth of these dependent variables. We also find broad-based stock options are a complement rather dian a substitute for fixed wages.

Theoretical background

There is no accepted theoretical treatment associated widi the performance potential of the use of stock options; however, we can draw from a number of theories to speculate on potential impact. …

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