Faculty Publications

Title

Stock option compensation and the likelihood of meeting analysts' quarterly earnings targets

Document Type

Article

Journal/Book/Conference Title

Review of Quantitative Finance and Accounting

Volume

26

Issue

3

First Page

301

Last Page

319

Abstract

One role of stock options in executive compensation packages is to counterbalance the inherently short-term orientation of base salary and annual bonuses. Managerial compensation plans frequently include stock options in order to better align the interests of managers and outside shareholders and reduce agency problems. However, since option values are sensitive to fluctuations in stock prices, and investors reward firms that meet or exceed earnings expectations, executives of firms with sizable option components in their compensation plans have increased incentives to report earnings that meet or exceed analysts' forecasts. We show that the propensity to meet or exceed analysts' quarterly earnings forecasts is positively related to the use of options in top executives' compensation plans. Further, firms that employ relatively more options in their compensation plans more frequently report earnings surprises that exceed analysts' forecast by small amounts (between 0 and 1 cent per share). These results suggest that the use of stock-based compensation intensifies top executives' focus on financial analysts' short-term earnings forecasts. © Springer Science + Business Media, Inc. 2006.

Original Publication Date

5-1-2006

DOI of published version

10.1007/s11156-006-7435-1

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