Stock Option Exercise and Gift Exchange Relationships

[The] effects of a rise in the profits per share on option exercise are considerably more powerful than the incentive effects of an increase in the number of options held in terms of employee job performance.

In Stock Option Exercise and Gift Exchange Relationships: Evidence from a Large U.S. Company (NBER Working Paper No. 16814), co-authors Peter Cappelli and Martin Conyon use data from the exercise of stock options by roughly 4500 managers in a large public company between 2001 and 2007 to investigate how higher profits from the exercise of stock options can affect employee performance. In this company, the option grants were set equally for all employees within occupational categories, and the financial markets set the price at which the options were ultimately exercised. Capelli and Conyon find a statistically significant positive relationship between the variation in profit per share of the options sold and standard measures of subsequent job performance for individual employees.

This so-called "gift exchange relationship" is not attributable to employees with higher wages exerting more effort, and producing more, in subsequent periods. The gift exchange effect observed here exists in real jobs and lasts for a year -- a much higher level of persistence than has been found in previous studies.

These results suggest that the gift exchange effects of a rise in the profits per share on option exercise are considerably more powerful than the incentive effects of an increase in the number of options held in terms of employee job performance. The authors estimate that it would take a seven-fold increase in the amount of options held by the typical employee to generate the same job performance effects as a doubling of the employee's profits on exercise of stock options.

--Claire Brunel