And, according to some very vocal critics, they motivate corporate leaders to pursue short-term moves that provide immediate boosts to stock values rather than build companies that will thrive over the long run.
As the use of stock options has begun to expand internationally, such concerns have spread from the United States to the business centers of Europe and Asia.
In the vast majority of cases, options are granted “at the money, ”which means that the exercise price matches the stock price at the time of the grant.
Their long-term impact on business in general remains much less clear, however. Are the incentives we’re creating in line with our business goals? Option grants are even more controversial for many outside observers.The last two factors—volatility and dividend rate—are particularly important because they vary greatly from company to company and have a large influence on option value. The higher the volatility of a company’s stock price, the higher the value of its options.The logic here is that while the owner of an option will receive the full value of any upside change, the downside is limited—an option’s payoff hits zero once the stock price falls to the exercise price, but if the stock falls further, the option’s payoff remains at zero. They lose their value quickly and can end up worth nothing.) The higher expected payoff raises the option’s value.And I’ve seen many large, sleepy companies use option programs that unwittingly create weak incentives for innovation and value creation.The lesson is clear: it’s not enough just to have an option program; you need to have the right program. They give the holder the right, but not the obligation, to purchase a company’s shares at a specified price—the “exercise” or “strike” price.