The Employee Stock Option : An Installment Option

Labor market analysis shows the employee stock option (ESO) is a delayed-payment contract in which the option is exchanged for labor services. Under this delayed-payment approach, the ESO is modeled as an installment option, where the installment premiums are wage concessions determined under an implicit contract at time of option grant. The model explains early exercise, as well as option forfeiture and employee retention. The model shows why, ignoring the wage concessions, the option appears to be a barrier option. Arbitrage pricing is used to determine the wage concessions, as well as value the barrier option at date of grant