Accounting essay with background and critical analysis

.....company would expense the 1000 share options at $15 (1000 x $15 = $15,000), as this was fair market value at the time of expense, based on Black-Scholes (Harper, 2017). In 2014, the expense would be $3 per share option (1000 x $3 = $3,000), because that is the amount of increase in the value of the options that derives from the change in the exercise price.

The accounting for the awards would change after the options became fully vested, because the value of the options would no longer be based on Black-Scholes. Instead, the options would be based on the difference between the new exercise price and the old exercise price. After the options have vested, there is no longer any time value to the options, so an options model for pricing is no longer necessary -- they are just shares at that point because the employees no longer need to be compensated for time risk as they can sell any time they want; ergo, they face no time risk.

The year 2 accounting would not change. The award was not given in this year. The fair value of the award will fluctuate but stock options are an expense (Bodie, Kaplan & Merton, 2003). Once the employees have the options, they have them. The only accounting issue is when the value of the options is changed by the company changing the conditions of the options. That did not happen in year two -- that the company determined it was unlikely for the condition to be met is not a change in the term of the options, just a change in the perceived odds of the options being exercised.

4. The cost would change at the end of 2014 (end of Y3) given that the company changed the terms of the award. The change in terms increased the value of the options, and therefore the accounting would reflect the difference between the new value of the options and the value of the options prior to the change. That difference would be expensed, because that is the amount that the company is topping up the options with. At the end of Y4, there would not be any change to the accounting -- it would just reflect whether or not the options were exercised, and at what value. The amount is not known -- we know the new value is $12 per option, but don't know what the prior value was, as that value had deteriorated since the last adjustment.

4a. Under IFRS, the options would be expensed over the course of the vesting period. So shares that vest over a four-year term, as these, would be expensed over the period -- each year of service for the employee considered to be part of the transaction. So under IFRS there would be changes to the accounting for this transaction in each year, because in each year there was an exchange of labor for these options (IAS Plus, 2017).

5. The loss of a tenant to bankruptcy on Dec 31, 2014 will not have an effect on the company's financial results for the year ended Dec 31, 2014; the proposed scenario is a fallacy. OMS would lose whatever arrears it had with this client, but those arrears should have been accounted for as loss reserves already, knowing that there was a high likelihood those bills would never be paid. So that scenario is just false.

What will happen is that the results for the fourth year, 2015, will be adversely affected, and that could put the performance target at risk. But no cumulative compensation cost would occur here because the options have already been expensed. The accounting transaction would reflect only that nothing was paid out, in the event that the options simply expire.

As for December 31, 2016, these options expire at the end of 2015. So whatever happens in 2016 is not relevant here. It's a four-year period beginning Jan 1, 2012, so it ends Dec 31, 2015.

References

Bodie, Z., Kaplan, R. & Merton, R. (2003) For the last time: Stock options are an expense. Harvard Business Review. Retrieved May 9, 2017 from https://hbr.org/2003/03/for-the-last-time-stock-options-are-an-expense

Harper, D. (2017). ESOs: Accounting for employee stock options. Investopedia. Retrieved May 9, 2017 from http://www.investopedia.com/features/eso/eso1.asp

IAS Plus (2017) IFRS 2 -- Share-Based Payment. IAS Plus. Retrieved May 9, 2017 from https://www.iasplus.com/en/standards/ifrs/ifrs2

PWC (2012). Stock-based compensation. Price Waterhouse Coopers. Retrieved May 9, 2017 from http://www.pwc.com/ca/en/emerging-company/publications/pwc-stock-based-compensation-2012-04-en.pdf