Lyft launched its IPO on April 1st 2019 with a share price of $72. Before the IPO, Lyft’s board of directors was likely trying to decide how to compensate CEO Logan Green to provide an incentive for him to increase the firm’s performance and share price after it went public. Let’s say the board was considering two possibilities such that they were deciding between providing one million dollars worth of shares of the firm stock at $72 per share or one million dollars worth of call options with a strike price of $72 and a maturity and vesting date one year after the IPO. To keep things simple, let’s say CEO Logan Green can choose between providing two levels of effort: regular effort or high effort. He has been exerting regular effort all along. He could switch to high effort which would be much more costly for him as he would have to work even longer hours, but the extra effort would likely result in better performance for the firm. The goal of the board’s incentive compensation is to convince the CEO to exert high effort, and we want to consider the incentive created by giving him either shares of stock or stock options. To determine the incentive created under shares versus options, we first have to know how many shares or options the one million dollars of incentive compensation would provide. We already know the price of a share of stock ($72), but we have to determine the price of the option to know how many options to provide. Remember that we determine the price of an option by considering the various values the stock price might be at the time of the option maturity. Let’s say the board assumes the CEO will exert regular effort and under that level of effort works with market analysts to predict the value of a share of the stock one year after the IPO. They conclude the share price one year after the IPO has the following probabilities: a 30% chance of $42 per share, a 10% chance it is $35 per share, a 30% chance it is $60 per share, a 20% chance of it being $74 per share, and a 10% chance if it being $80 per share.

ENGR.ECONOMIC ANALYSIS
14th Edition
ISBN:9780190931919
Author:NEWNAN
Publisher:NEWNAN
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
icon
Related questions
Question
Lyft launched its IPO on April 1st 2019 with a share price of $72. Before the IPO, Lyft’s board of directors was likely trying to decide how to compensate CEO Logan Green to provide an incentive for him to increase the firm’s performance and share price after it went public. Let’s say the board was considering two possibilities such that they were deciding between providing one million dollars worth of shares of the firm stock at $72 per share or one million dollars worth of call options with a strike price of $72 and a maturity and vesting date one year after the IPO. To keep things simple, let’s say CEO Logan Green can choose between providing two levels of effort: regular effort or high effort. He has been exerting regular effort all along. He could switch to high effort which would be much more costly for him as he would have to work even longer hours, but the extra effort would likely result in better performance for the firm. The goal of the board’s incentive compensation is to convince the CEO to exert high effort, and we want to consider the incentive created by giving him either shares of stock or stock options. To determine the incentive created under shares versus options, we first have to know how many shares or options the one million dollars of incentive compensation would provide. We already know the price of a share of stock ($72), but we have to determine the price of the option to know how many options to provide. Remember that we determine the price of an option by considering the various values the stock price might be at the time of the option maturity. Let’s say the board assumes the CEO will exert regular effort and under that level of effort works with market analysts to predict the value of a share of the stock one year after the IPO. They conclude the share price one year after the IPO has the following probabilities: a 30% chance of $42 per share, a 10% chance it is $35 per share, a 30% chance it is $60 per share, a 20% chance of it being $74 per share, and a 10% chance if it being $80 per share.
Expert Solution
trending now

Trending now

This is a popular solution!

steps

Step by step

Solved in 3 steps

Blurred answer
Knowledge Booster
Bonus Compensation Scheme
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, economics and related others by exploring similar questions and additional content below.
Similar questions
Recommended textbooks for you
ENGR.ECONOMIC ANALYSIS
ENGR.ECONOMIC ANALYSIS
Economics
ISBN:
9780190931919
Author:
NEWNAN
Publisher:
Oxford University Press
Principles of Economics (12th Edition)
Principles of Economics (12th Edition)
Economics
ISBN:
9780134078779
Author:
Karl E. Case, Ray C. Fair, Sharon E. Oster
Publisher:
PEARSON
Engineering Economy (17th Edition)
Engineering Economy (17th Edition)
Economics
ISBN:
9780134870069
Author:
William G. Sullivan, Elin M. Wicks, C. Patrick Koelling
Publisher:
PEARSON
Principles of Economics (MindTap Course List)
Principles of Economics (MindTap Course List)
Economics
ISBN:
9781305585126
Author:
N. Gregory Mankiw
Publisher:
Cengage Learning
Managerial Economics: A Problem Solving Approach
Managerial Economics: A Problem Solving Approach
Economics
ISBN:
9781337106665
Author:
Luke M. Froeb, Brian T. McCann, Michael R. Ward, Mike Shor
Publisher:
Cengage Learning
Managerial Economics & Business Strategy (Mcgraw-…
Managerial Economics & Business Strategy (Mcgraw-…
Economics
ISBN:
9781259290619
Author:
Michael Baye, Jeff Prince
Publisher:
McGraw-Hill Education