Equity Compensation Accounting Issues

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Nov 9

Equity Compensation Accounting Issues

Linda Chan

November 9, 2006

Know More: Executive compensation

The following is not meant to be legal or financial advice.

On October 13, 2006, Ginny Coles presented to attorneys in Redwood City, CA on equity compensation issues.

Equity compensation is affected by FAS 123R and IRS 409A. FAS 123R relates to accounting for options. Under FAS 123R, an equity award triggers compensation expense based on fair value of the award at the time of the grant. The expense is amortized over the expected life of the option.

Fair value is usually calculated using Black Scholes, but the following factors may increase fair value and the compensation charge: high stock price volatility, long exercise periods, long option terms.
Options with service based vesting create the largest accounting cost due to the high probability of vesting. Awards with performance based vesting are becoming popular because they offer greater flexibility in establishing objectives, measuring goals that create shareholder value. The accounting treatment of performance based stock is the same as service based options except that the periodic charge can be reversed if the performance goals are not met.

IRS 409A affects mainly private companies. Under IRS 409A, employees with discount options may suffer accelerated taxes. There is a safe harbor, but it requires independent appraisal to support the fair market value exercise prices. This may be time consuming and expensive.

related entries

Valuations Oct 31, 2006
D & O Underwriters Oct 20, 2006
Chairman Christopher Cox's Testimony Apr 28, 2006
Executive Compensation Disclosures Apr 24, 2006

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