Sink or Swim? Firms' Responses to Underwater Options

Posted: 8 Oct 2003

See all articles by Sudhakar V. Balachandran

Sudhakar V. Balachandran

University of Illinois at Chicago

Mary Ellen Carter

Boston College - Department of Accounting

Luann J. Lynch

University of Virginia - Darden School of Business

Abstract

We examine changes in executive compensation that firms make in response to underwater options. Using a sample of firms with underwater options in 2000, we estimate that 81% of firms to take action to respond to underwater options. We examine explanations for firms' responses. Opponents argue that it rewards poor performance and transfers wealth unjustifiably from shareholders to executives. We find some support for this argument in that firms with weaker governance structures are more likely to reprice underwater options. Alternatively, firms that respond claim they do so to restore incentives, retain executives, and insulate executives from market-wide or industry-wide factors beyond their control. Our results find evidence in support of these arguments in that restoring incentives and retaining executives seems to be the primary drivers of firms' responses.

Keywords: Executive compensation, stock options

JEL Classification: J33, M41

Suggested Citation

Balachandran, Sudhakar V. and Carter, Mary Ellen and Lynch, Luann J., Sink or Swim? Firms' Responses to Underwater Options. Available at SSRN: https://ssrn.com/abstract=445800

Sudhakar V. Balachandran

University of Illinois at Chicago ( email )

1200 W Harrison St
Chicago, IL 60607
United States

Mary Ellen Carter

Boston College - Department of Accounting ( email )

Carroll School of Management
140 Commonwealth Avenue
Chestnut Hill, MA 02467
United States

Luann J. Lynch (Contact Author)

University of Virginia - Darden School of Business ( email )

P.O. Box 6550
Charlottesville, VA 22906-6550
United States
434-924-4721 (Phone)
434-243-7677 (Fax)

HOME PAGE: http://www.darden.virginia.edu/faculty/lynch.htm

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Abstract Views
2,239
PlumX Metrics