Accounting Professor Receives 'Best Paper' Honors

UNIVERSITY PARK, PA-The editors of the Journal of Accounting & Economics have awarded "best paper" honors to a Penn State accounting professor.

Steven Huddart, associate professor of accounting in Penn State's Smeal College of Business, received the award for the study, "Information Distribution Within Firms: Evidence From Stock Option Exercises." Huddart co-authored the study with Mark Lang of the University of North Carolina at Chapel Hill. It was presented at the Journal of Accounting & Economics ' conference, "Accounting and Economics in the New Economy," which took place June 29 at MIT.

The study found that employees who hold stock options exercise them as if they can peer into the future, and found that low-level employees are at least as good at predicting price movements as employees who are much more senior.

In the paper, the researchers examine the stock option exercise decisions of over 50,000 employees at seven corporations to provide evidence on the distribution of price-relevant, non-public information among employees. Specifically, the study examines whether employees' decisions to exercise stock options predict subsequent stock returns. It is believed to be the first investigation to focus on the distribution of price-relevant information outside the executive suite.

"We found that when option exercise-adjusted for factors already known to affect employee decisions-is low, stock returns in the coming six months are 10 percent higher than when option exercise is high," says Huddart.

In addition, Huddart says, the study found that the exercise decisions of relatively junior employees contain at least as much price-relevant information as the exercise decisions of more senior employees.

"Option exercise serves to aggregate a price-relevant component of employees' information," says Huddart. "Lower-level employees, collectively, may know more than the smaller group of senior employees. Another possibility is that the most senior employees face constraints that limit their ability to profit from private information that lower-levels employees do not face."

Stock option exercise, Huddart explains, is a valuable signal to top management if it conveys information not available from other sources.

"High option exercise by a salesperson might indicate he has a pessimistic view of future sales. While it may be impossible to infer value-relevant information from the exercise decisions of an individual employee, the aggregated exercise decisions of many employees do, on average, contain substantial information about firm prospects," says Huddart. "Since the cost of gathering these data is low and aggregate exercise conveys information about the corporation's near term prospects, corporate management may benefit from tracking stock option exercise."

Huddart teaches managerial accounting and tax planning in Penn State's Smeal College of Business Administration. His research examines how information and incentives affect decisions. He has examined the effects of ownership structure on corporate value; the determinants of portfolio choices made by investment advisers; the financial reporting, taxation, compensation, and valuation aspects of employee stock options; the consequences of differing national accounting standards on the allocation of trading volume across stock exchanges; and the relationships between disclosure and insider trading.

He is a member of the Institute of Chartered Accountants of Ontario (Canada) and the editorial boards of the Journal of Accounting & Economics and the Journal of Accounting Case Research. He has also served on the editorial board of the Review of Accounting Studies. Huddart consults on compensation issues. He has addressed the Financial Accounting Standards Board, the Financial Executives Institute, and other practitioner groups on aspects of stock-based compensation.