Article2002

The Valuation Implications of Employee Stock Option Accounting for Profitable Computer Software Firms

Timothy B. Bell · Wayne R. Landsman · Shu Yeh

122 citations0/0 files storedThe Accounting Review

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Auditing, Earnings Management, Governance Accounting Theory and Financial Reporting Financial Reporting and Valuation Research

Abstract

We use the Ohlson (1995, 1999) and Feltham and Ohlson (1999) valuation models to investigate the market's perception of the economic effect of employee stock options (ESOs) on firm value for a sample of 85 profitable computer software companies. Our results suggest that the market appears to value these firms' ESO expense not as an expense but as an intangible asset (even after controlling for the endogeneity bias arising from the mechanical relation between ESOs and the underlying stock prices). However, we also find a conflict between: (1) the positive manner in which investors appear to value ESO expense, and (2) the negative relation between current ESO expense and future abnormal earnings. This conflict not only could be an artifact of the restrictiveness of the abnormal earnings forecasting equation we estimate, but it also calls into question whether investors assess correctly the effect of ESOs on profitable software firm value.

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References

1995Earnings, Book Values, and Dividends in Equity Valuation*1995The information content of losses 1995Valuation and Clean Surplus Accounting for Operating and Financial Activities*2001The relevance of the value relevance literature for financial accounting standard setting: another view 2008Financial Accounting Standards Board (FASB)2000Market Value and Patent Citations: A First Look 1999An empirical assessment of the residual income valuation model 1998The Value Relevance of Intangibles: The Case of Software Capitalization

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2013Value relevance of human capital information 2003Accounting for Employee Stock Options 2009Agency problems and audit fees: further tests of the free cash flow hypothesis 2006Employee Stock Option Fair‐Value Estimates: Do Managerial Discretion and Incentives Explain Accuracy?*2006Market performance impacts of human capital disclosures 2007Fair Value Accounting for Financial Instruments: Some Implications for Bank Regulation

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