10.4 Acceleration of Vesting Upon a Change in Control

In some cases, the vesting of an acquiree’s share-based payment awards is accelerated upon a change in control of the acquiree. The accounting for the accelerated vesting of an award upon a change in control depends on which party initiated the acceleration as well as on whether the acceleration is a preexisting provision in the terms of the acquiree’s awards.

10.4.1 Acquirer Accelerates Vesting

An acquirer’s decision to immediately vest or reduce the future vesting period of awards held by grantees of the acquiree does not affect the portion of the fair-value-based measure of the replacement awards that is attributable to postcombination vesting and therefore included in postcombination compensation cost; rather, it affects the timing of the recognition of postcombination compensation cost. This is because the allocation of compensation expense to precombination and postcombination periods is based on the greater of (1) the total vesting period or (2) the original vesting period of the replaced awards (see Section 10.2.1.3). Therefore, in instances in which the acquirer accelerates vesting, the allocation will still be based on the original vesting period of the replaced awards. For example, if the acquirer decides to immediately vest the replacement awards, the portion of the fair-value-based measure of the awards attributable to postcombination vesting would be immediately recognized as compensation cost in the acquirer’s postcombination financial statements. The amount of the compensation cost would not be affected.

Example 10-12

Acquirer Accelerates Vesting Upon the Acquisition Date

On January 1, 20X1, Entity B issues 100 share-based payment awards to an employee that vest at the end of the third year of service (cliff vesting). On January 1, 20X2, Entity A acquires B in a transaction accounted for as a business combination and is obligated to replace the employee’s awards with 100 new awards that have the same service terms as B’s original awards. On January 1, 20X2, the fair-value-based measure of both A’s replacement awards and B’s replaced awards is $10 per award. Entity A then immediately vests all of the outstanding replacement awards on the date of the business combination.

The total fair-value-based measure of the replacement awards as of the acquisition date is $1,000 (100 awards × $10 fair-value-based measure), of which $333 (one of three years) is attributable to precombination service and $667 (two of three years) is attributable to postcombination service. The $333 is included in the consideration transferred, and the $667 is recognized as compensation cost by A in the postcombination financial statements immediately upon the business combination.

If the fair-value-based measure of the replacement awards had been greater than the acquisition-date fair-value-based measure of B’s replaced awards, any excess would have been recognized immediately as compensation cost in A’s postcombination financial statements.

10.4.2 Acceleration of Vesting Included in the Original Terms of the Awards

If share-based payment awards of the acquiree become immediately vested on the acquisition date because of a preexisting provision in the awards’ terms that accelerates their vesting (commonly referred to as a “change-in-control” provision), the portion of the replacement awards that is attributable to precombination vesting, and therefore included in consideration transferred, would be affected. As noted in Section 10.2, the portion of the replacement awards attributable to precombination vesting is the acquisition-date fair-value-based measure of the replaced awards multiplied by the ratio of the precombination vesting period to the greater of the (1) total vesting period or (2) original vesting period of the replaced awards. Since (1) all of the goods or services have been provided in the precombination period, (2) there is no requirement for future vesting, and (3) the original vesting period is complete, the entire fair-value-based measure of the replaced awards would be attributable to precombination vesting and therefore included in consideration transferred. If the fair-value-based measure of the replacement awards is the same as that of the replaced awards, there is no postcombination compensation cost recognized. If, however, the fair-value-based measure of the replacement awards is greater than that of the replaced awards, the excess is recognized as postcombination compensation cost.

Note that there is diversity in practice related to the acquiree’s recognition of the remaining unrecognized compensation cost. One view is that any remaining unrecognized compensation cost associated with the original grant-date fair-value-based measure of the awards should be recognized in the acquiree’s precombination financial statements. Alternatively, the compensation cost may be presented in neither the acquiree’s precombination financial statements nor the combined entity’s postcombination financial statements (i.e., it is recognized on the “black line”). See Section A.16.1 of Deloitte’s Roadmap Business Combinations for information about the presentation of certain acquiree expenses triggered by the consummation of a business combination.

Example 10-13

Acceleration of Vesting Included in the Original Terms of the Award

Assume the same facts as in Example 10-12, except that the original terms of Entity B’s awards included a preexisting provision that accelerates their vesting upon B’s acquisition. Since (1) all of the service has been rendered in the precombination period, (2) there is no requirement for future vesting, and (3) the original vesting period is complete, the entire $1,000 would be attributable to precombination service and therefore included in consideration transferred.

10.4.3 Modification to the Original Terms of the Awards to Add a Change-in-Control Provision in Contemplation of a Business Combination

In some instances, share-based payment awards are modified to add a change-in-control provision in contemplation of a business combination. A modification could also result from the decision to exercise a discretionary change-in-control provision that was part of the original terms of the award (or was added in contemplation of the business combination). Such modifications may be initiated by the acquiree or requested by the acquirer. As discussed in Section 10.2, entities should carefully analyze a modification to determine whether it is part of, or separate from, the business combination. A transaction that is entered into by or on behalf of the acquirer or primarily for the benefit of the acquirer or the combined entity is likely to be a separate transaction.

Under ASC 805-10-55-18, factors for entities to consider in determining whether a transaction primarily benefits the acquirer or the acquiree include the reason for the transaction, which party initiated it, and when it occurred. Understanding the business purpose of a modification will help an acquirer assess which party benefits from it. It is generally presumed that the acquirer benefits when an award’s original terms are modified to (1) add a change-in-control provision during the negotiation of a business combination with the acquirer or (2) exercise a discretionary change-in-control provision. On the other hand, the acquirer is generally not presumed to benefit if an acquiree, before entering into negotiations with the acquirer, modifies the award’s original terms as part of actively exploring exit strategies. Given the high degree of judgment involved in these determinations, discussion with accounting advisers is encouraged.

When a modification to accelerate the vesting of awards upon a change in control is determined to be primarily for the benefit of the acquirer, the modification is accounted for in accordance with ASC 718 (i.e., compensation cost is recognized over the remaining portion of the modified requisite service period; see Section 6.3.6.1 for a discussion of modifications that reduce the requisite service period of an award). The acceleration of vesting upon the consummation of the business combination would be considered a transaction that is separate from the business combination and would be accounted for as though the acquirer had decided to accelerate the vesting of the replacement awards immediately upon the acquisition. That is, the acquirer’s decision to accelerate the vesting of the awards would affect the timing of the recognition of postcombination compensation cost — any remaining unrecognized compensation cost associated with the modified awards would not be recognized as compensation cost in the acquiree’s precombination financial statements; instead, it would be recognized as compensation cost immediately in the postcombination financial statements (i.e., on day 1). The acceleration of vesting would not affect the determination of the portion of the awards that is attributable to (1) precombination vesting and therefore included in the consideration transferred and (2) postcombination vesting and therefore included in postcombination compensation cost.

Example 10-14

Modification to Add a Change-in-Control Provision

Assume the same facts as in Example 10-12, except that to retain the employee until at least the acquisition date, Entity B modified the employee’s existing awards during the negotiations of the business combination so that they automatically vest upon a change in control. It was also determined that the modification was made to benefit Entity A as it was initiated and discussed between the parties as part of the negotiations. The modification is therefore, in substance, the acceleration of the vesting of the awards by the acquirer and is accounted for as a transaction that is separate from the business combination.

This accounting treatment is the same as that in Example 10-12; that is, one-third of the awards are attributable to precombination service and two-thirds are attributable to postcombination service (which is immediately recognized). As indicated above, acceleration of the vesting of awards by the acquirer does not affect the portion of the fair-value-based measure of the replacement awards that is attributable to postcombination service and therefore included in postcombination compensation cost (i.e., the $667); rather, it affects the timing of the recognition of postcombination compensation cost (i.e., immediate).

Example 10-15

Modification as a Result of Exercising a Discretionary Change-in-Control Provision

Assume the same facts as in Example 10-12, except that the original awards included a discretionary change-in-control provision that allowed Entity B to elect whether upon a change in control the awards would (1) be replaced or (2) vest in full (i.e., accelerated vesting). Entity B elected to accelerate vesting and further determined that exercise of the discretionary provision benefitted A because it was initiated and discussed between the parties as part of the negotiations.

As in Example 10-12 and the example above, the modification is, in substance, the acceleration of the vesting of the awards by the acquirer and is accounted for as a transaction that is separate from the business combination. The amount attributable to (1) precombination service (i.e., included in consideration transferred) and (2) postcombination service (i.e., recognized as postcombination compensation cost by the acquirer) is determined in a manner consistent with that described in Example 10-12 and the example above.

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This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.