Yesterday, the staff of the
More specifically, the staff adds new guidance (and rescinds other guidance) to help companies estimate the fair value of share-based payment transactions under Topic 718 with respect to the determination of the current price of the underlying shares and the estimation of the expected price volatility when the company grants awards that are "spring-loaded." When companies grant awards while in possession of positive MNPI, the staff believes that companies estimating fair value should consider making adjustments to the current price of the underlying share or the expected volatility of the price of the underlying share for the expected term of the award.
SideBar
According to the WSJ, the new "guidance follows events involving
With regard to estimating expected volatility, the objective "is to ascertain the assumptions that marketplace participants would likely use in determining an exchange price for an option." For example, if the company has recently announced a merger that "would change its business risk in the future, then it should consider the impact of the merger in estimating the expected volatility if it reasonably believes a marketplace participant would also consider this event." Likewise, companies will need to carefully consider whether MNPI "is currently available (or would be available) to the issuer that would be considered by a marketplace participant in estimating the expected volatility." If the company has entered into an undisclosed material transaction prior to the company's grant of equity, depending on the facts, the company could conclude that the event should be taken into account in estimating the expected volatility.
The staff expects that the company would, at a minimum, disclose in a footnote to its financials how it determined the expected volatility assumption, including how it determined any significant adjustments to historical volatility. In addition, companies also need to consider disclosure as critical accounting estimates in MD&A (Reg S-K Item 303(b)(3)) to the extent that "consideration of future events in estimating expected volatility...resulted in an estimate that involves a significant level of estimation uncertainty and has had or is reasonably likely to have a material impact on the financial condition or results of operations of the company."
With regard to market price, while an observable market price on the grant date is usually considered to be a reasonable estimate of the current price of the underlying shares of a routine annual grant to employees that is "not designed to be spring-loaded," the market price may require adjustment when grants are made
"in contemplation of or shortly before a planned release of [MNPI], and such information is expected to result in a material increase in share price. The staff believes that non-routine spring-loaded grants merit particular scrutiny by those charged with compensation and financial reporting governance. Additionally, when a company has a planned release of [MNPI] within a short period of time after the measurement date of a share-based payment, the staff believes a material increase in the market price of the company's shares upon release of such information indicates marketplace participants would have considered an adjustment to the observable market price on the measurement date to determine the current price of the underlying share."
The
First, the staff delivers a reminder that, in this circumstance, companies are expected to "consider whether such awards are consistent with its policies and procedures, including the terms of the compensation plan approved by shareholders, other governance policies, and legal requirements. The staff reminds companies of the importance of strong corporate governance and controls in granting share options, as well as the requirements to maintain effective internal control over financial reporting and disclosure controls and procedures." Second, the staff believes that, without an adjustment to the closing share price to reflect the impact of the new material contract, "the closing share price would not be a reasonable and supportable estimate and, without an adjustment the valuation of the award would not meet the fair value measurement objective of FASB ASC Topic 718 because the closing share price would not reflect a price that is unbiased for marketplace participants at the time of the grant." [Emphasis added.]
In addition, the staff would expect the company to disclose in its footnotes, at a minimum, how it determined the current price of shares underlying options for purposes of determining the grant-date fair value, including "its accounting policy related to how it identifies when an adjustment to the closing price is required, how it determined the amount of the adjustment to the closing share price, and any significant assumptions used to determine such adjustment, if material." The company should also consider if the characteristics of these spring-loaded options differ from the company's other options to an extent that would require separate disclosure regarding these options to allow investors to understand the company's use of share-based compensation. The staff also advises that the company "should consider the applicability of MD&A and other disclosure requirements, including those related to liquidity and capital resources, results of operations, critical accounting estimates, executive compensation, and transactions with related persons."
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