Stock compensation plans are incentive awards that allow selected employees to receive shares of stock and other equity instruments from the employer when they render goods and services to the employer under the terms of a company’s plans (SFAS 123, 1995, p. ... The examples of compensation plans are stock purchase plans, stock options, restricted stocks, and stocks appreciation rights. These plans are used to align the interests of the employees with their company that employees will work even harder to ensure the success of the company, and provide significant income tax savings.
How to measure for stock-based compensation plans: using the intrinsic value method or the fair value method have been the most controversial issue among regulators and academia with respect to the treatment of stock options in the financial statements for 30 years. The reason is that the primary objective of decision usefulness of financial reporting as well as net income depends on whether or not the company recognizes stock options as expenses on a fair value based method in the income statements. After several recent corporate reporting scandals, FASB and Congress renewed their attention on the method to account for their stock-based compensation plans.
The paper is organized as follows: in the second section, I discuss the historical developments on accounting for stock options. I explain the details in two methods measuring stock options and the controversy rising from SFAS 123 in section three, followed by a discussion in comparison to the conceptual framework in section four. ... Historical Developments on Accounting for Stock Options
APB 25: Intrinsic Value Method
The Accounting Principle Board promulgated the accounting standards being utilized for employee stock options in Opinion No. ... Stock options issued to employees with a fixed number of shares and at the market price on the grant date (generally termed fixed plan options) result in no compensation expense being recorded. Opinion 25 has been criticized for misleading the users of financial statements, for generating inconsistent information, and for presenting no guideline to how to record stock options in the financial statements (SFAS 123, 1995, p. ...
SFAS 123: Introduction of Fair Value Based Method
Because of disagreements in Opinion 25, the FASB proposed expensing stock options in an Exposure Draft, Accounting for Stock Based Compensation, in 1993, resulting from a project that began in 1984. ... FASB faced extremely difficulties for issuing SFAS 123; however, FASB did succeed in making the “fair value method” of expensing the preferred accounting method and now requires pro forma disclosure of the potential impact of recording this expense using the fair value method in SFAS 123, October 1995. This statement encourages, but does not require recognition of compensation costs for the fair value of stock-based compensation paid to employees for their services. ... Those transactions must be recorded based on the fair value method (SFAS 123, 1995, p. ...
SFAS 148: Timelier and More Prominent
Scandals in the early years of the 21st Century have influenced many companies to announce that they would be changing to the fair value method in 2003. ... SFAS 148 Accounting for Stock-Based Compensation-Transition and Disclosure, an Amendment of SFAS 123, is a timelier and more prominent statement. This statement amends SFAS 123 to provide alternative transition methods for companies that voluntarily adopt the fair value method of accounting for stock-based compensation (SFAS 148, 2002, Summary). ... Accounting for Stock Compensation Plans
Fair Value Method
Under the fair value method, the compensation costs rising from employees stock-based compensation plans should be measured based on the fair value of the awards at the grant date. SFAS 123 specifically mentions the Black-Scholes and the Binomial option pricing models as acceptable methods for determining compensation cost. In attempting to measure compensation cost, an accountant must employ an option-pricing model that take into account the stock price at the grant day, the exercise price, the expected life of the option, the expected volatility of the underlying stock, the expected dividends on the stock, and the risk-free interest rate over the expected life of the option (SFAS 123, 1995, p.
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