Repricing and Employee Stock Option Valuation

31 Pages Posted: 26 Oct 1998

See all articles by Charles J. Corrado

Charles J. Corrado

Deakin University - School of Accounting, Economics & Finance

Bradford D. Jordan

University of Florida; University of Florida - Department of Finance, Insurance and Real Estate

Thomas W. Miller

Saint Louis University - Department of Finance; Mississippi State University - College of Business

John J. Stansfield

University of Missouri at Columbia - Department of Finance

Date Written: October 20, 1998

Abstract

The academic literature generally concludes that the Black-Scholes model overstates the value of employee stock options (ESOs). In particular, because ESOs cannot be traded, employee risk aversion often elicits premature exercise. As a result, the ESO is less valuable than a traded option. An important factor affecting ESO values has been overlooked in reaching this conclusion. This is the implicit repricing provision in ESOs, whereby the ESO exercise price resets to a lower level if the stock price falls.

We develop a new valuation model for pricing ESOs. Our valuation model incorporates explicit repricing rules. Simulations based on various repricing rules suggest that the Black-Scholes model typically understates ESO value. Without a repricing provision, the Black-Scholes model will overstate ESO value, because risk aversion still has a significant effect on ESO value.

JEL Classification: G12, G13, M41, C61

Suggested Citation

Corrado, Charles J. and Jordan, Bradford D. and Miller, Thomas William and Miller, Thomas William and Stansfield, John J., Repricing and Employee Stock Option Valuation (October 20, 1998). Available at SSRN: https://ssrn.com/abstract=137559 or http://dx.doi.org/10.2139/ssrn.137559

Charles J. Corrado (Contact Author)

Deakin University - School of Accounting, Economics & Finance ( email )

221 Burwood Highway
Burwood, Victoria 3215
Australia
61492446214 (Phone)

Bradford D. Jordan

University of Florida ( email )

Gainesville, FL 32611
United States

University of Florida - Department of Finance, Insurance and Real Estate ( email )

P.O. Box 117168
Gainesville, FL 32611
United States

Thomas William Miller

Saint Louis University - Department of Finance ( email )

3674 Lindell Blvd
Saint Louis, MO 63108-3397
United States
314-977-3851 (Phone)
314-977-1479 (Fax)

Mississippi State University - College of Business ( email )

Mississippi State, MS 39762-0964
United States

John J. Stansfield

University of Missouri at Columbia - Department of Finance

Robert J. Trulaske, Sr. College of Business
403 Cornell Hall
Columbia, MO 65211
United States

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