The NASPP Blog

The FASB recently ratified an EITF decision and approved issuance of an Accounting Standards Update on “Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period” (their words, not mine). 

What the Heck?

I was completely baffled as to when an award would have a performance condition that could be met after the end of the service period. After all, isn’t the period over which the performance goals can be met the very definition of a service period?  So I spoke with Ken Stoler of PwC, who translated this into English for me.

Turns out, it’s a situation where the award is no longer subject to forfeiture due to termination of employment but is still subject to some sort of performance condition.  Here are two situations where we see this occur with some regularity:

• Retirement-Eligible Employees: It is not uncommon for companies to provide that, to the extent the goals are met, performance awards will be paid out to retirees at the end of the performance period. Where this is the case, a retirement-eligible employee generally doesn’t have a substantial risk of forfeiture due to termination but could still forfeit the award if the performance goals aren’t met. 
• IPOs:  Privately held companies sometimes grant options or awards that are exercisable/pay out only in the event of an IPO or CIC.  The awards are still subject to a time-based vesting schedule and, once those vesting requirements have been fulfilled, are no longer subject to forfeiture upon termination.  But employees could still forfeit the grants if the company never goes public nor is acquired by a publicly held company.

The EITF’s Decision

The accounting treatment that the EITF decided on is probably what you would have guessed.  You estimate the likelihood that the goal will be met and recognize expense commensurate with that estimate.  For retirement-eligible employees, the expense is based on the total award (whereas, for other employees, the expense is also commensurate with the portion of the service period that has elapsed and is haircut by the company’s estimate of forfeitures due to termination of employment).  

For example, say that a company has issued a performance award with a grant date fair value of $10,000, three-fourths of the service period has elapsed, and the award is expected to pay out at 80% of target.  In the case of a retirement-eligible employee, the total expense recognized to date should be $8,000 (80% of $10,000).  In the case of an employee that isn’t yet eligible to retire, the to-date expense would be, at most, $6,000 ($80% of $10,000, then multiplied by 75% because only three-fourths of the service period has elapsed).  Moreover, the expense for the non-retirement-eligible employee would be somewhat less than $6,000 because the company would further reduce it for the likelihood of forfeiture due to termination of employment.

The same concept applies in the case of the awards that are exercisable only in the event of an IPO/CIC, except that, in this situation, the IPO/CIC is considered to have a 0% chance of occurring until pretty much just before the event occurs. So the company doesn’t recognize any expense for the awards until just before the IPO/CIC and then recognizes all the expense all at once.

Doesn’t the EITF Have Anything Better to Do?

I had no idea that anyone thought any other approach was acceptable and was surprised that the EITF felt the need to address this. But Ken tells me that there were some practitioners (not PwC) suggesting that these situations could be accounted for in a manner akin to market conditions (e.g., haircut the grant date fair value for the likelihood of the performance condition being met and then no further adjustments). 

I have no idea how you estimate the likelihood of an IPO/CIC occurring (it seems to me that if you could do that, you’d be getting paid big bucks by some venture capitalist rather than toiling away at stock plan accounting).  And in the case of performance awards held by retirement-eligible employees, my understanding is that the reason ASC 718 differentiates between market conditions and other types of performance conditions is that it’s not really possible for today’s pricing models to assess the likelihood that targets that aren’t related to stock price will be achieved.  Which I guess is why the EITF ended up where they did on the accounting treatment for these awards. You might not like the FASB/EITF but at least they are consistent.

– Barbara