Exercise-pricepolicyisperhapsthecentraldesignissueregardingnontradableExecutiveStockOptions(ESO).Inthispaper,wegivethevaluelineofESO,V(P),andtherangeoftheincentive-maximizingexercisepriceswhichisdefinedastheexercisepricesthatgenerateincentives,εn(P)/εP,within1percentofthemaximumusingthe“certaintyequivalence”approach,similartothatadoptedbyRichardLambertetal..Ourresultsshowthat,holdingconstantthecompany'scostofmakinganoptiongrant,incentivesaremaximizedbysettingexercisepriceswithinarangethattypicallyincludesthegrant-datemarketprice.
