After the Stock Options Boom: Changes in Equity-Based Pay Following the Mandatory Adoption of IFRS 2

Abstract

This paper investigates the economic consequences of the mandatory adoption of International Financial Reporting Standard 2 (hereafter, ``IFRS 2'') on firms' choices between alternative executive compensation instruments. With a unique, hand-collected dataset that contains design elements of stock option plans, we find that the adoption of IFRS 2 affects both the decision to keep or to give up stock options and the choice of alternative equity compensation instruments. In contrast to recent evidence from the United States, we find that the majority of firms replacing stock options by other equity instruments switched to performance shares, not to restricted stock. Our dataset allows us to relate firms' reactions to IFRS 2 to the three major rationales explaining stock option compensation practice, namely, optimal contracting, managerial rent extraction, and perceived cost. Our results suggest that all three rationales contribute to explaining changes in compensation design because firms with sophisticated option plans tend to keep their options, whereas design decisions by firms abandoning options are related to a lack of shareholder power.