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Noncompensatory Compensatory
Non-Compensatory Plans
1. Discount from market price no more than
Safe harbor rule: discount 5% of market price
b.
No more than 31 days after price is fixed to enroll Purchase price is based solely on market price at purchase date
Also, employees can cancel participation before purchase date and get a refund
Compensatory Plan
Any plan that fails to satisfy the three criteria
Note: Incentive stock options under the tax code will not necessarily be noncompensatory under GAAP
However, there would be no need for deferred taxes because the employee would not be taxed and the employer does not get a tax deduction
Factors in models include: Market price and exercise price Risk free interest rate Expected volatility of stock prices Expected dividend on stock Number of years until options are be exercised
expected to
Terminology
Measurement date and grant date are often (but not always) the same Measurement date - The date at which the equity share price and other pertinent factors, such as expected volatility, that enter into measurement of the total recognized amount of compensation cost for an award of share-based payment are fixed. Grant date - The date at which an employer and an employee reach a mutual understanding of the key terms and conditions of a share-based payment award.
Approval by shareholders or board of directors may be required The grant date for an award of equity instruments is the date that an employee begins to benefit from, or be adversely affected by, subsequent changes in the price of the employers equity shares.
1,000 options for common stock $3 par market price $8 Fair value per share - $6 option price $6 Service period required is four years.
Exercise Period Service Period
Grant date
Compensatory Awards
Classified as liability Classified as equity Remeasured at fair value on Measured at fair value at each balance sheet date the grant date and not until the award is settled subsequently remeasured
Award is classified as liability if the entity can be required under any circumstances* to settle the option or similar instrument by transferring cash or other assets
* See ASC 718-10-35-15
Award is classified as equity if it is an equity instrument and the company cannot be required to settle the option in cash under any circumstances.
Measurement date = settlement date Measurement date = grant date (generally) Award is classified as liability if the Award is classified as equity if it is an equity instrument and the entity can be required under any company cannot be required to circumstances to settle the option settle the option in cash under any or similar instrument by circumstances. transferring cash or other assets Options that permit broker-assisted cashless exercise does not result in liability classification if
ASC 718-10-35-15 A cash settlement feature that can be exercised only upon the occurrence of a contingent event that is outside the employees control would NOT require classification as a liability award
1. Cashless exercise requires a valid exercise 2. The employee is the legal owner of the shares Provisions to provide cash to meet minimum statutory withholding requirements are also okay
Complications
Requisite service period Estimating turnover Deferred taxes Modification of terms
Measurement Date Grant date
Exercise Period
Service Period
Types of Conditions
Service condition Performance condition Market condition
The complications are likely when there is both a service condition and one or more performance conditions and maybe a market condition specified or implied by the terms of the award
Modification of terms
When an equity award is modified, it must be remeasured
Recall that liability awards are automatically
If the new award has greater fair value than the old award immediately before the modification, the excess fair value is recognized as compensation expense
22
We undo the recognition of compensation expense related to options that FAIL TO VEST because of service or performance conditions Credit compensation expense, and debit APIC stock options outstanding
2,000 2,000
23
Underwater options
Perhaps market price < option price No one will exercise the options When they expire, the balance is transferred to APIC expired options Compensation is NOT reversed
2,000
2,000
24
Complications
Requisite service period Estimating turnover Deferred taxes
Measurement Date Grant date
Performance conditions Market conditions Using an option pricing model Nonpublic companies
Exercise Period
Service Period
Service Period
The number of options to be issued may not be certain until the level of achievement of a performance condition is known
Measurement Date
Grant date
Exercise Period
Service Period
Major difference between ASC 718 (FAS123R) and ASC 815 (FAS133)
We re-value derivatives under ASC 815 based on current economic conditions Under ASC 718 the value of equity awards is determined (generally) on the grant date and does not change after that date
Note that liability awards are re-valued like derivatives under ASC 815 (derivatives)
Share-based Compensation
IFRS 2 vs. ASC 718 (FAS 123R)
versus
Compensatory and noncompensatory have separate rules Payroll taxes are recorded at exercise date (or vesting date for restricted stock)
Adjustments made based on current stock prices This increases the volatility of the impact on profit and loss
US GAAP Deferred taxes recognized based on grant date fair value as compensation is recognized
IF recipient has a choice, classification is based on the expected settlement Fixed monetary amount to be paid in varying number of shares = equity award
If recipient has CHOICE, it is assumed to be cash and therefore a liability award Fixed monetary amount to be paid in varying number of shares = liability award
Recognition of Awards
IFRS Recognized over the related period of employee service
Explicit Implicit No derived so in rare cases, the recognition period will be different