Is backdating executive stock options always costly to shareholders?

Abstract

We use a binomial model to investigate the cost to shareholders of backdating employee stock option (ESO) grants to award in‐the‐money rather than at‐the‐money options to a manager. When the expected return of the stock underlying an ESO is sufficiently close to the risk‐free rate, a backdating arrangement can always be structured to simultaneously improve shareholders’ wealth and the manager's utility. The smaller the manager's non‐option wealth, personal income tax rate or risk tolerance, the more likely a backdating arrangement can be welfare improving.

Executive stock option vesting conditions, corporate governance and CEO attributes: evidence from Australia

“…However, following the failure of firms such as Enron in the US and HIH Insurance in Australia, researchers have raised concerns about ESOs. Evidence reported includes the association between ESOs and accounting irregularities (Elayan et al ., ), financial misreporting and earnings management (Baker et al ., ; Burns and Kedia, ), and manipulation of ESO exercising strategies (Collins et al ., ; Grégoire et al ., ). Most of the concerns stem from the fact that firms have given inadequate consideration to the potential dysfunctional consequences of ESOs.…”