Issue Alerts
ECIA: What Soon-To-Be Public and Newly Public Companies Should Know about the Valuation of Employee Stock Options
2010This Equity Compensation Issue Alert guides practitioners at soon-to-be and newly public companies through two major equity-compensation compliance challenges: 1) selecting an option-pricing model and 2) estimating key input assumptions, particularly expected term and expected volatility. Because soon-to-be and newly public companies often lack extensive option and stock price data, they are generally required to base valuation assumptions largely on peer-firm data, a requirement complicated by strict FASB criteria concerning the selection of peers. This Issue Alert is relevant to private companies with material stock-based compensation grants, to newly public companies, and to those preparing to go public.
ECIA: Making Sense of Forfeiture Rates
2010A particularly challenging topic within ASC 718 is the required use of a forfeiture rate. Numerous techniques exist for first deriving an appropriate forfeiture rate and then applying it within an amortization model. Unfortunately, not all techniques are created equal. Some fail to meet the principles of ASC 718 while others do meet the principles, but require manual intervention/maintenance, in order to ensure they produce consistently reliable outcomes on the final expense calculations. This Equity Compensation Issue Alert is intended to assist companies, auditors, and regulators in understanding important best practices related to both the upfront derivation of a forfeiture rate and downstream application of the rate within the amortization process.
ECIA: How Unrefined Expected Term Approaches Create Audit Risk
2010In this Equity Compensation Issue Alert, we compare the differences between rigorously developed expected terms and “simplified” or “unrefined” expected terms among a sample of 25 companies. Simplified or unrefined estimates are those developed without analysis as to how historical data should be used in a representative manner, whether different employee groups exhibit distinct exercise patterns, and which expected term estimation technique is most appropriate. Our results illustrate how simplified expected term estimates can differ substantially from estimates produced by expert and judgment-driven analyses, and that this difference can have material financial statement implications.
ECIA: Identifying and Optimizing a Fragmented ASC 718 Process
2010FAS 123R financial reporting processes can be deceiving: having a process that “passes” audit each year does not mean risk is being appropriately managed. This ECIA proposes a framework through which senior finance and accounting professionals can analyze FAS 123R financial reporting risk. By decomposing risk into five categories, specific risk drivers can be more readily identified. Then, the end-to-end process can be examined from the perspective of how well it addresses those risk drivers and the extent to which its execution is automated and repeatable.
ECIA: Best Practices in ASC 718 Forfeiture Rate Estimation
2009Many companies apply a single forfeiture rate to all the grants within their ASC 718 amortization model. However, much like the requirement in estimating the expected term assumption, ASC 718 requires testing for the possibility that different groups of employees exhibit distinct forfeiture patterns. Although differences in exercise behavior are not frequent, this Equity Compensation Issue Alert describes a recent Equity Methods study of forfeiture patterns in a sample of 38 companies. The results document considerable differences between executive and non-executive forfeiture patterns, thus posing important implications for how companies estimate and apply a forfeiture rate as part of their ASC 718 compliance process.
ECIA: Underwater Option Exchanges/Developing Expected Term in a Lattice for Input to the Black-Scholes-Merton Formula
2009This Equity Compensation Issue Alert reviews the implementation challenges and considerations associated with developing an expected term for underwater options (subject to an exchange) using a lattice model, and then using the expected term from that lattice model as an input to the Black- Scholes-Merton formula. Whereas using the lattice model in its entirety is a generally “cleaner” approach, some companies have stated a preference for using the Black-Scholes-Merton formula to value their options. The nuances and unexpected complications of this approach are discussed throughout this Issue Alert.
ECIA: Underwater Option Exchanges/Ongoing Use of Black-Scholes Formula after Valuing Replacement Options with Lattice Model
2009This Equity Compensation Issue Alert discusses the arguments for and against a company being allowed (and potentially even encouraged) to use a lattice model to value replacement options subject to an option exchange without being required to continue using that lattice model to value new at-the-money grants issued by the firm in the future. Competing perspectives related to this issue are discussed throughout the Issue Alert, followed by Equity Methods’ recommendation on the matter.
ECIA: Underwater Option Exchanges/Managing Risk of Incremental Cost Due to Share Price Changes during Tender Offer Period
2009This Equity Compensation Issue Alert reviews a common concern regarding the risk that share price changes during the tender offer period may cause what was initially represented to shareholders and management as a “value-for-value” exchange to actually give rise to incremental cost. Indeed, because most companies implementing an option exchange have a high volatility, it is plausible that [downward] share price movements during the tender offer period could give rise to a materials amount of incremental cost. This risk arises from the fact that exchange rations are usually locked down prior to the tender offer while incremental cost is measured after the tender offer.
Equity Methods Underwater Exchanges Survey Results
2008This presentation reviews the result of an underwater exchanges survey conducted by Equity Methods. The presentation provides summary analyses and trends from the more than 300 companies surveyed (with a 180 company completion rate). The findings are sorted by companies that have completed exchanges, as well as those in the process of considering, have considered and rejected, and have not seriously considered an exchange.
Useful Links
- Leverage the following resources to learn more about equity compensation and the ASC 718 and IFRS 2 standards.
- ASC 718 Standard
- IFRS 2 Standard
- Financial Accounting Standards Board (FASB)
- International Accounting Standards Board (IASB)
- Certified Equity Professional Institute
- National Center For Employee Ownership (NCEO)
- National Association for Stock Plan Professionals (NASPP)
- Financial Executives International (FEI)
Recommended Books
Advanced Topics in Equity Compensation Accounting
By Takis Makridis
In this required text for the CEP, published by the NCEO, author Takis Makridis selects a handful of valuation issues, one reporting issue and a hybrid of the above and subjects them to close scrutiny.
Click here to purchase a copy
