Sun, Jia, Ph.D. (2011) Models of executive stock options. PhD thesis, University of Warwick.

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Abstract

This thesis presents novel utility indifference models to solve versions of problems
faced by the executives compensated with periodical option grants in practice.
Chapter 2 provides a comprehensive analysis of a single executive stock option
(ESO). A closed-form solution to the exercise threshold instantaneously before maturity
is obtained, and the leading driver of the slope of the exercise thresholds close
to and far from maturity is identified. This Chapter forms the foundation for further
investigation of more complex problems in later Chapters.
Chapter 3 investigates the optimal exercise of a portfolio of ESOs with different
strikes and maturities. This problem is particularly faced by the executives who
receive option grants annually and over time cumulate a portfolio of options with
different characteristics. We show that the optimal exercise order can switch endogenously,
and the timing of this switch can change the exercise thresholds for a
particular option and/or all options relative to a stand-alone basis, depending on
their strikes and maturities. This makes the value and cost of the option portfolio
lower than the sum of the values and costs for each individual option on a standalone
basis. Therefore, one of the implications from Chapter 3 is that it can produce
a more accurate method for valuing and accounting for a portfolio of ESOs.
Furthermore, the empirical literature suggests that the Executive Stock Option
Plans (ESOPs) are often into multi-year plans, and thus Chapter 4 considers the
problem for an executive who anticipates receiving a new option grant in the future
and has taken it into account as part of his portfolio. Since the future options are
granted at-the-money, the strike price is stochastic ex ante. We show that the future
option with a stochastic strike price can significantly affect the exercise strategy of
the executive’s existing options, and thus change the cost of the existing options
and the overall portfolio. Therefore, Chapter 4 can provide a method to recognise
the cost of multi-year ESOPs.
Lastly, another problem arising from granting ESOs periodically is that the executive
can purposely time his new option grant in order to maximise the value of
his option compensation. Since this issue has been well suggested by the empirical
literature, Chapter 5 investigates this problem theoretically in the utility framework.
Our model can identify the maximum benefit for the executive of timing his option
awards and the cost of this to the firm. Our results are quite consistent with the
empirical findings.

Item Type:	Thesis or Dissertation (PhD)
Subjects:	H Social Sciences > HD Industries. Land use. Labor H Social Sciences > HG Finance
Library of Congress Subject Headings (LCSH):	Employee stock options -- Econometric models
Official Date:	November 2011
Dates:	Date Event November 2011 Submitted
Institution:	University of Warwick
Theses Department:	Warwick Business School
Thesis Type:	PhD
Publication Status:	Unpublished
Supervisor(s)/Advisor:	Whalley, Elizabeth ; Henderson, Vicky
Extent:	ix, 285 leaves : charts
Language:	eng

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