Proposed Practical Expedient to Determine Fair Value of Share-Option Awards

The Financial Accounting Standards Board (FASB) issued proposed Accounting Standards Update (ASU), Compensation—Stock Compensation (Topic 718): Determining the Current Price of an Underlying Share for Equity-Classified Share-Option Awards, on August 17, 2020.

The proposed ASU is intended to reduce cost and complexity for nonpublic entities when determining the grant-date fair value of certain share-option awards. It would provide nonpublic entities with a practical expedient to determine the current price input of equity-classified awards using a valuation method performed in accordance with US Department of the Treasury Regulations, including Section 409A of the US Internal Revenue Code (IRC), rather than measuring it at fair value.

The amendments are being proposed by the Private Company Council based on feedback from private company stakeholders. Comments on the proposed ASU are due by October 1, 2020.

Key Provisions

Under current Generally Accepted Accounting Principles (GAAP), equity-classified share-option awards are initially measured at fair value at the grant date and only subsequently remeasured upon a modification if certain criteria are met. If an observable market price for the award isn’t available, the fair value should be estimated using a valuation technique—such as the Black-Scholes model or lattice model.

For purposes of determining the fair value of a share-option award at the grant date or upon a modification, the proposed practical expedient would allow a nonpublic entity to determine the current price of the underlying share using a valuation method performed in accordance with certain Treasury Regulations that provide for acceptable valuation methodologies to comply with the presumption of reasonableness requirements of Section 409A of the IRC. Section 409A allows for the use of any one of the following three methods to meet the presumption of reasonableness requirements:

  • A valuation determined by an independent appraisal within the 12 months preceding the grant date
  • A valuation based on a formula that, if used as part of a nonlapse restriction with respect to the share, would be considered the fair market value of the share
  • A valuation made reasonably and in good faith and evidenced by a written report that considers the relevant factors of the illiquid stock of a start-up corporation

The practical expedient would be available for equity-classified share-option awards issued to both employees and nonemployees—after the adoption of ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting—and may be applied on an award-by-award basis.

The practical expedient wouldn’t be available for other forms of share-based payment arrangements—such as nonvested shares—or liability-classified awards.

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