Review of Accounting Studies

, Volume 18, Issue 3, pp 642–682 | Cite as

Financial reporting for employee stock options: liabilities or equity?

  • Mary E. BarthEmail author
  • Leslie D. Hodder
  • Stephen R. Stubben


This study seeks to determine whether employee stock options share key characteristics of liabilities or equity. Consistent with warrant pricing theory, we find that common equity risk and expected return are negatively associated with the extent to which a firm has outstanding employee stock options, which is opposite to the association for liabilities. We also find the following. (1) The association is positive for firms that reprice options and less negative for firms that have options with longer remaining terms to maturity, which indicates that some employee stock options have characteristics that make them more similar to liabilities. (2) Leverage measured based on treating options as equity has a stronger positive relation with common equity risk than leverage measured based on treating options as liabilities. (3) The sensitivity of employee stock option value to changes in asset value mirrors that of common equity value and is opposite to that of liability value. Also, we find that, unlike liabilities, employee stock options have substantially higher risk and expected return than common equity. Our findings are not consistent with classifying employee stock options as liabilities for financial reporting if classification were based on the directional association of a claim with common equity risk and expected return. Rather, our findings suggest the options act more like another type of equity.


Employee stock options Warrant pricing Liabilities versus equity 

JEL Classification

M41 M48 G13 



We wish to thank Stephen Cooper, Patrick Finnegan, Patrick Hopkins, Michael Kirschenheiter, James Leisenring, Stephen Penman, Jim Wahlen, an anonymous reviewer, and workshop participants at the 2012 Review of Accounting Studies Conference (especially discussant Kenneth Peasnell), Brigham Young University, Chinese University of Hong Kong, Florida International University, Harvard Business School, Maastricht University, Ohio State University, Oklahoma University, Singapore Management University, University of Texas at Austin, Utah State University, Washington University in St. Louis, and the Wharton School of the University of Pennsylvania for helpful discussions and comments. Leslie Hodder gratefully acknowledges financial support from Ernst & Young, LLC.


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Copyright information

© Springer Science+Business Media New York 2013

Authors and Affiliations

  • Mary E. Barth
    • 1
    Email author
  • Leslie D. Hodder
    • 2
  • Stephen R. Stubben
    • 3
  1. 1.Stanford UniversityStanfordUSA
  2. 2.Indiana UniversityBloomingtonUSA
  3. 3.The University of North Carolina at Chapel HillChapel HillUSA

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