United States

PCC proposal: Determining fair value of share-option awards

FINANCIAL REPORTING INSIGHTS  | 

Private company equity shares underlying a share option often are not actively traded, and thus, observable market prices for those shares or similar shares do not exist. Therefore, determining the fair value of traditional private company share-option awards at grant date or upon modification to an award often can be costly and complex. In response to this complexity, the Private Company Council (PCC) has set forth a potential solution on which the Financial Accounting Standards Board is seeking comment through a proposed Accounting Standards Update (ASU).

If finalized, the proposed ASU provides a practical expedient whereby a nonpublic entity may determine the current price of a share underlying an equity-classified share-option award issued to employees or nonemployees using a valuation method performed in accordance with specific regulations of the U.S. Department of the Treasury. Such regulations allow the use of any one of the following valuation methodologies to comply with the “presumption of reasonableness” requirements of U.S. Internal Revenue Code Section 409A:

  • 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

Nonpublic entities would be allowed to apply the practical expedient on an award-by-award basis. However, the practical expedient may not be applied to liability-classified awards.

The proposed ASU, Compensation – Stock Compensation (Topic 718): Determining the Current Price of an Underlying Share for Equity-Classified Share-Option Awards (a proposal of the Private Company Council), is available for comment until October 1, 2020.

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