Please use this identifier to cite or link to this item: http://hdl.handle.net/1783.1/1918

Valuation of employee reload options using utility maximization approach

Authors Lau, K.W.
Kwok, Y.K.
Issue Date 2005
Source International Journal of Theoretical and Applied Finance, v. 8, (5), 2005, p. 659-674
Summary The reload provision in an employee stock option is an option enhancement that allows the employee to pay the strike upon exercising the stock option using his owned stocks and to receive new "reload" stock options. The usual Black-Scholes risk neutral valuation approach may not be appropriate to be adopted as the pricing vehicle for employee stock options, due to the non-transferability of the ownership of the options and the restriction on short selling of the firm's stocks as hedging strategy. In this paper, we present a general utility maximization framework to price non-tradeable employee stock options with reload provision. The risk aversion of the employee enters into the pricing model through the choice of the utility function. We examine how the value of the reload option to the employee is affected by the number of reloads outstanding, the risk aversion level and personal wealth. In particular, we explore how the reload provision may lower the difference between the cost of granting the option and the private option value and improve the compensation incentive of the option award. © World Scientific Publishing Company.
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ISSN 0219-0249
Language English
Format Article
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