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March 02, 2001
Stock Options Still a Powerful Tool
Sto
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ck options are "very much alive and well," according to a paper published by The Wharton School of the University of Pennsylvania.

Despite the downturn in the stock market over the past year, "the death of stock options has been seriously exaggerated," it reports. Options continue to be a powerful tool for increasing shareholder value, particularly for firms that have lots of growth potential. The paper focused on data gathered on the compensation practices of new economy firms.

The paper's authors conclude that stock options are also more effective if given to the right employees. "Give lots of options to the employees who are actually developing the products and services and producing the revenue," said accounting professor Richard Lambert, one of the authors.

The paper reports that giving a 20 percent increase in the ratio of equity grant value to salary for managers resulted in a 4.7 percent increase in the next year's stock market returns. However, a 20 percent increase in the ratio of stock equity to salary granted to technical workers in new economy firms resulted in a 5.1 percent increase in annual returns, while a similar grant to non-technical employees resulted in an increase of 2.7 percent in annual returns.

"Within new economy firms, performance gains are only achieved when larger relative grants are made to employees deep inside the organization, especially the technical employees who are the key contributors of value creation in this sector," concluded Christopher Ittner, another of the paper's authors.

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