The Effects of Employee Stock Options on Employee Mobility and Employee Entrepreneurship

Abstract

Many knowledge-intensive sectors are home to employees that frequently change employers or quit to become entrepreneurs. Such sectors are also home to firms that widely use stock options to compensate rank-and-file employees. One rationale for stock option grants to the rank-and-file suggests that they support employee retention. Another rationale suggests that they promote goal alignment and innovation. We draw on these rationales to explain the effect of nonexecutive stock option grants on mobility and employee entrepreneurship. The retention logic plainly implies a binding effect that limits mobility and entrepreneurship. Alternatively, we build on the incentive logic to argue that stock option grants can trigger mobility and encourage employee entrepreneurship because the experimentation and risk-taking they induce can also contribute to learning about employment fit and new opportunities. We analyze these effects by examining the distribution of and the risk-taking incentives embedded in stock options grants to rank-and-file employees on their movement to existing firms as well as to entrepreneurship in the US semiconductor industry. We find that stock options grants to rank-and-file employees negatively affect employee mobility to other firms, but positively impact employee entrepreneurship. We also find that risk-inducing stock option plans drive employees’ transition to entrepreneurship. Our findings suggest that long-term equity-linked compensation practices designed to support innovation may drive employees to become entrepreneurs.