badnewsforstockholders.Infact,ifweviewoptiongrantsas
compensation, they are part of the normal cost of doing
business for a young firm with a cash flow problem.
Consequently,newsofoptiongrantsbythemselvesshouldbe
neither good nor bad news to markets.
- Pricereaction to option exercise. Garvey and Milbourn
(2002)examinehowstockpricesreacttothedilutionthatis
caused when options are exercised.
28 Theyarguethatinanefficientmarketthatincorporatesthe
potential dilution from option exercise, the actualexercise
shouldbeanoneventwithnostockpriceconsequences.What
theyfind, however, isthat stock pricesreact negativelyto
option-exercise-associated dilution, which they see as
evidence that markets do not fully incorporate the option
overhang. This may not necessarily be true, since option
exercise, by itself, conveys information to the market. In
particular,alargenumberofoptionexercisesbyemployees
canbeviewedasasignalthattheybelievethatthestockis
overvalued.
3.Marketvalueandoptionoverhang.LiandWong (2004)
examinedthemarketvaluationofcompanieswithemployee
stock options.
29 They find that the market price is in fact lower for
companieswithsubstantialoverhang(byabout 6 percent)and
thatadjustingforemployeestockoptionsinvaluationyields
valuesthatareclosertothemarketprices.Thiscanbeviewed
asevidencethatmarketsdoconsiderthevalueofoutstanding
options when valuing companies.
Thisdebatehasbecomemoreintensewiththepotentialshift
inaccountingrulesin2006,requiringcompaniestoexpense