This paper examines the relationship between open market repurchases, stock options, and earnings management. Using a sample of firms in the S&P 500, S&P Midcap 400 and S&P Smallcap 600 indices during 1998-2004, we find that, after controlling for the traditional motives, managerial stock options affect positively the magnitude of actual repurchases. In
addition, while both managerial options exercisable and unexercisable have a positive effect on actual repurchases, exercisable options have a larger effect than unexercisable options. We also find managers use stock repurchases as a substitute device for discretionary accounting
accruals in their earnings management behavior. The evidence further shows that managerial stock options, especially managerial options exercisable, are positively associated with the magnitude of earnings management.