Chapter 12 — Presentation
Chapter 12 — Presentation
This chapter discusses presentation matters related to the statement of financial position, statement of operations, statement of cash flows, and EPS.
12.1 Statement of Financial Position
12.1.1 Receivables
ASC 505-10
Receivables for Issuance of Equity
45-2 An entity may receive a note, rather than cash, as a contribution to its equity. The transaction may be a sale of capital stock or a contribution to paid-in capital. Reporting the note as an asset is generally not appropriate, except in very limited circumstances in which there is substantial evidence of ability and intent to pay within a reasonably short period of time, for example, as discussed for public entities in paragraph 210-10-S99-1 (paragraphs 27 through 29), which requires a deduction of the receivable from equity. However, such notes may be recorded as an asset if collected in cash before the financial statements are issued or are available to be issued (as discussed in Section 855-10-25).
SEC Staff Accounting Bulletins
SAB Topic 4.E, Receivables
From Sale of Stock [Reproduced in ASC
310-10-S99-2]
Facts:
Capital stock is sometimes issued to officers or
other employees before the cash payment is
received.
Question: How should the receivables from the
officers or other employees be presented in the
balance sheet?
Interpretive Response: The
amount recorded as a receivable should be
presented in the balance sheet as a deduction from
stockholders’ equity. This is generally consistent
with Rule 5-02.30 of Regulation S-X which states
that accounts or notes receivable arising from
transactions involving the registrant’s capital
stock should be presented as deductions from
stockholders’ equity and not as assets.
It should be noted generally
that all amounts receivable from officers and
directors resulting from sales of stock or from
other transactions (other than expense advances or
sales on normal trade terms) should be separately
stated in the balance sheet irrespective of
whether such amounts may be shown as assets or are
required to be reported as deductions from
stockholders’ equity.
The staff will not suggest
that a receivable from an officer or director be
deducted from stockholders’ equity if the
receivable was paid in cash prior to the
publication of the financial statements and the
payment date is stated in a note to the financial
statements. However, the staff would consider the
subsequent return of such cash payment to the
officer or director to be part of a scheme or plan
to evade the registration or reporting
requirements of the securities laws.
Generally, receivables that result from the issuance of shares classified as permanent or mezzanine equity should be presented as a reduction of each respective class of stock (i.e., contra-equity). That is, receivables that result from the issuance of shares classified as permanent equity generally should be presented as a reduction of permanent equity in accordance with ASC 505-10-45-2. Similarly, receivables that result from the issuance of shares classified as mezzanine equity should be presented as a reduction of mezzanine equity.
SAB Topic 4.E (reproduced in ASC 310-10-S99-2) generally requires entities to classify any outstanding receivables from officers or other employees related to the issuance of stock to officers or other employees as a deduction from stockholders’ equity rather than as an asset.
Asset classification of such receivables may be appropriate only when the receivable is fully repaid in cash before the financial statements are issued. The date of payment must be disclosed in the notes to the financial statements. SAB Topic 4.E cautions, however, that the SEC staff would consider any subsequent return of cash to the officer or employee as potentially representing an effort “to evade the registration or reporting requirements of the securities laws.” Further, receivables of this nature must be disclosed separately regardless of whether they are classified as an asset or as a deduction from equity. Entities preparing to file a registration statement with the SEC should be particularly cognizant of the potential legal ramifications associated with loans to employees and should consult with their legal counsel to address any issues well before their public offering.
In addition, an entity that allows an employee to finance the purchase of shares should consider whether recourse or nonrecourse notes have been tendered. Nonrecourse notes are not recognized because such a financing is accounted for, in substance, as stock options. See Section 3.11.
12.1.2 Deferred Tax Assets
As discussed in Section 4.12.2, NQSOs are options that do not qualify for treatment as ISOs or ESPPs under the provisions of IRC Sections 421 through 424. NQSOs give employers more flexibility than ISOs.
In accordance with ASC 740-10-45-4, an entity must classify the DTA as
noncurrent on the balance sheet.
See Chapter 10 of Deloitte’s Roadmap
Income Taxes for a discussion
of the income tax effects of share-based
payments.
12.1.3 Capitalization of Inventory
SEC Staff Accounting Bulletins
SAB Topic 14.I, Capitalization
of Compensation Cost Related to Share-Based
Payment Arrangements
Facts: Company K is a manufacturing company
that grants share options to its production
employees. Company K has determined that the cost
of the production employees’ service is an
inventoriable cost. As such, Company K is required
to initially capitalize the cost of the share
option grants to these production employees as
inventory and later recognize the cost in the
income statement when the inventory is
consumed.85
Question: If Company K elects to adjust its
period end inventory balance for the allocable
amount of share-option cost through a period end
adjustment to its financial statements, instead of
incorporating the share-option cost through its
inventory costing system, would this be considered
a deficiency in internal controls?
Interpretive Response: No. FASB ASC Topic
718, Compensation — Stock Compensation, does not
prescribe the mechanism a company should use to
incorporate a portion of share-option costs in an
inventory-costing system. The staff believes
Company K may accomplish this through a period end
adjustment to its financial statements. Company K
should establish appropriate controls surrounding
the calculation and recording of this period end
adjustment, as it would any other period end
adjustment. The fact that the entry is recorded as
a period end adjustment, by itself, should not
impact managements ability to determine that the
internal control over financial reporting, as
defined by the SEC’s rules implementing Section
404 of the Sarbanes-Oxley Act of
2002,86 is effective.
______________________________
85 FASB ASC
paragraph 718-10-25-2A.
86 Release No.
34-47986, June 5, 2003, Management’s Report on
Internal Control Over Financial Reporting and
Certification of Disclosure in Exchange Act Period
Reports.
If compensation cost associated with share-based payment awards is part of the cost of inventory, an entity should initially capitalize it as inventory and later recognize it in the income statement when the inventory is consumed. However, the SEC staff has indicated that it may be reasonable for an entity instead to adjust the period-end inventory balance for compensation cost through a period-end adjustment and not incorporate the cost in its inventory costing system.
12.1.4 Fully Vested Nonemployee Awards
ASC 718-10
Classification of Assets Other Than a Note or a Receivable for Nonemployee Awards
45-3 As discussed in paragraph 718-10-35-1B, a grantor may conclude that an asset (other than a note or a receivable) has been received in return for fully vested, nonforfeitable, nonemployee share-based payment awards that are issued at the date the grantor and nonemployee enter into an agreement for goods or services (and no specific performance is required by the nonemployee to retain those equity instruments). Such an asset shall not be displayed as contra-equity by the grantor of the award. The transferability (or lack thereof) of the awards shall not affect the balance sheet display of the asset. This guidance is limited to transactions in which awards are transferred to nonemployees in exchange for goods or services.
For additional information about the classification of assets, other than a note
or a receivable, that are received in exchange for
fully vested nonforfeitable equity instruments,
see Section 9.7.
12.1.5 Presentation of Awards With Repurchase Features That Function as Vesting Conditions
As discussed in Section
3.4.3, repurchase features included in
a share-based payment award may at times function
in substance as vesting conditions. For example, a
stock option or similar instrument may be “early
exercised” and include such repurchase features.
An early exercise of a stock option or similar
instrument refers to a grantee’s ability to change
his or her tax position by exercising an option or
similar instrument and receiving shares before the
award is vested. The early exercise of the stock
option is generally not considered substantive for
accounting purposes given the repurchase features
included in such awards. However, the shares
issued to a grantee upon an early exercise of a
stock option or similar instrument may be
considered legally outstanding common stock. In
accordance with SEC Regulation S-X, Rule 5-02(29),
SEC registrants are required to disclose the
number of common shares outstanding on the balance
sheet. If the shares are deemed to be legally
outstanding, the number of shares disclosed as
outstanding on the balance sheet may differ from
the number of shares outstanding for accounting
purposes. Entities should consider whether
disclosing this difference is necessary on the
basis of their facts and circumstances. These
considerations also apply to restricted stock or
nonvested shares with repurchase features that
function as vesting conditions.
12.2 Statement of Operations
ASC 718 requires compensation cost from share-based payment awards to be (1) recorded in net income, (2) either expensed or capitalized (and subsequently expensed) in an entity’s financial statements, and (3) classified appropriately as either equity or a liability in accordance with the classification criteria in ASC 718 (see Chapter 5). However, ASC 718 provides little guidance on how compensation cost associated with share-based payment awards should be presented in the statement of operations.
12.2.1 Classification of Compensation Expense
SEC Staff Accounting Bulletins
SAB Topic 14.F, Classification of
Compensation Expense Associated With Share-Based Payment
Arrangements
Facts: Company
G utilizes both cash and share-based payment
arrangements to compensate its employees and nonemployee
service providers. Company G would like to emphasize in
its income statement the amount of its compensation that
did not involve a cash outlay.
Question: How
should Company G present in its income statement the
non-cash nature of its expense related to share-based
payment arrangements?
Interpretive
Response: The staff believes Company G should
present the expense related to share-based payment
arrangements in the same line or lines as cash
compensation paid to the same employees or
nonemployees.84 The staff believes a
company could consider disclosing the amount of expense
related to share-based payment arrangements included in
specific line items in the financial statements.
Disclosure of this information might be appropriate in a
parenthetical note to the appropriate income statement
line items, on the cash flow statement, in the footnotes
to the financial statements, or within MD&A.
______________________________
84 FASB ASC Topic 718 does
not identify a specific line item in the income
statement for presentation of the expense related to
share-based payment arrangements, with the exception of
the guidance in ASC 718-10-15-5A on share-based payment
awards granted to a customer.
The SEC staff believes that compensation expense related to share-based payment arrangements (e.g., cost of sales, R&D, selling and administrative expenses) should be presented within the appropriate line items on the face of the statement of operations and not separately within a single share-based compensation line item. That is, presentation in the statement of operations should not be governed by the form of consideration paid (e.g., cash or share-based payment). The staff believes that instead, an entity could consider disclosing the amount of expense related to share-based payment arrangements presented within specific line items in the financial statements. Disclosure of this information might be appropriate in a parenthetical note to the appropriate income statement line items, in the cash flow statement, in the footnotes to the financial statements, or in MD&A.
The following is an example of an acceptable
disclosure of share-based compensation expense presented within specific line
items:
12.2.2 Share-Based Payment Awards Granted to Employees and Nonemployees of an Equity Method Investee
ASC 323-10
Share-Based Compensation Granted to Employees and
Nonemployees of an Equity Method Investee
25-3 Paragraphs 323-10-25-4
through 25-6 provide guidance on accounting for
share-based payment awards granted by an investor to
employees or nonemployees of an equity method investee
that provide goods or services to the investee that are
used or consumed in the investee’s operations when no
proportionate funding by the other investors occurs and
the investor does not receive any increase in the
investor’s relative ownership percentage of the
investee. That guidance assumes that the investor’s
grant of share-based payment awards to employees or
nonemployees of the equity method investee was not
agreed to in connection with the investor’s acquisition
of an interest in the investee. That guidance applies to
share-based payment awards granted to employees or
nonemployees of an investee by an investor based on that
investor's stock (that is, stock of the investor or
other equity instruments indexed to, and potentially
settled in, stock of the investor).
25-4 In
the circumstances described in paragraph 323-10-25-3, a
contributing investor shall expense the cost of
share-based payment awards granted to employees and
nonemployees of an equity method investee as incurred
(that is, in the same period the costs are recognized by
the investee) to the extent that the investor’s claim on
the investee’s book value has not been increased.
25-5 In the circumstances
described in paragraph 323-10-25-3, other equity method
investors in an investee (that is, noncontributing
investors) shall recognize income equal to the amount
that their interest in the investee’s net book value has
increased (that is, their percentage share of the
contributed capital recognized by the investee) as a
result of the disproportionate funding of the
compensation costs. Further, those other equity method
investors shall recognize their percentage share of
earnings or losses in the investee (inclusive of any
expense recognized by the investee for the share-based
compensation funded on its behalf).
SEC Observer Comment: Accounting by an Investor for Stock-Based Compensation Granted to Employees of an Equity Method Investee
S99-4 The following is the
text of SEC Observer Comment: Accounting by an Investor
for Stock-Based Compensation Granted to Employees of an
Equity Method Investee.
Paragraph
323-10-25-3 provides guidance on the accounting by an
investor for stock-based compensation based on the
investor’s stock granted to employees of an equity
method investee. Investors that are SEC registrants
should classify any income or expense resulting from
application of this guidance in the same income
statement caption as the equity in earnings (or losses)
of the investee.
ASC 323 provides guidance on share-based payment awards granted by an investor
to employees and nonemployees of an equity method investee. Generally, investors
of the equity method investee (both the contributing investors and
noncontributing investors) classify any income or expense associated with the
awards in the same caption as the equity in earnings of the investee.
12.2.3 Nonemployee Awards Issued in Exchange for Goods or Services
The SEC staff has reviewed a number of cases in which entities have issued share-based payment awards (e.g., warrants, shares, or convertible instruments) to suppliers, service providers, customers, or partners. The staff has generally held as follows:
- When share-based payment awards are issued to customers or potential customers in arrangements in which the awards will not vest or become exercisable without purchases by the recipient, the related cost must be reported as a sales discount — in other words, as a reduction of revenue.
- When awards are issued to suppliers or potential suppliers and they will not vest or become exercisable unless the recipient provides goods or services to the issuer, the cost of the award should be reported as a cost of the related goods or services.
- Separate line items in the statement of operations should not be presented for the apparent purpose of emphasizing that a portion of the sales discounts or expenses did not involve a cash outlay. This requirement is consistent with the guidance in SAB Topic 14.F (see Section 12.2.1).
- Awards that do not require any performance from the counterparty are related to past transactions and should therefore be classified appropriately (e.g., as cost of sales or reduction of revenue and not as marketing or nonoperating expenses).
12.2.4 Payroll Taxes
ASC 718-10
25-23 Payroll taxes, even though directly related to the appreciation on stock options, are operating expenses and shall be reflected as such in the statement of operations.
Employer payroll taxes incurred as a result of share-based payment transactions
should be reflected as operating expenses.
12.3 Statement of Cash Flows
Share-based payment arrangements can include awards that are settled in cash and
awards that are settled in shares. An entity
should therefore consider the nature of the
share-based payment award when accounting for
changes in and settlement of the share-based
payment arrangement in the statement of cash
flows. For additional information about
classifying the effects of share-based payment
awards in the statement of cash flows, see
Section 7.3 of Deloitte’s Roadmap
Statement of Cash Flows.
12.4 Earnings per Share
ASC 718-10
Earnings per Share
45-1 Topic 260 requires that equity share options, nonvested shares, and similar equity instruments granted under share-based payment transactions be treated as potential common shares in computing diluted earnings per share (EPS). Diluted EPS shall be based on the actual number of options or shares granted and not yet forfeited regardless of the entity’s accounting policy for forfeitures in accordance with paragraphs 718-10-35-1D and 718-10-35-3, unless doing so would be antidilutive. If vesting in or the ability to exercise (or retain) an award is contingent on a performance or market condition, such as the level of future earnings, the shares or share options shall be treated as contingently issuable shares in accordance with paragraphs 260-10-45-48 through 45-57. If equity share options or other equity instruments are outstanding for only part of a period, the shares issuable shall be weighted to reflect the portion of the period during which the equity instruments are outstanding.
45-2 Paragraphs 260-10-45-29 through 45-34 and Example 8 (see
paragraph 260-10-55-68) provide guidance on applying the treasury stock method for equity
instruments granted in share-based payment transactions in determining diluted EPS.
In calculating EPS, an entity should consider how a share-based payment award
may affect (1) income available to common shareholders (i.e., the numerator
in the EPS calculation) and (2) the weighted-average number of common shares
or dilutive potential common shares (i.e., the denominator in the EPS
calculation). Because an entity recognizes the fair-value-based measure of
an award as compensation cost (or as a reduction of revenue) in arriving at
the entity’s income available to common shareholders, awards granted in
return for goods or services or as a sales incentive to a customer will
typically affect the EPS numerator. An entity should consider whether
share-based payment awards may be participating securities that affect basic
EPS under the two-class method as well as the effects of ESPPs on EPS.
For additional information about considerations related to the calculation of
EPS for share-based payment awards, see Chapter
7 of Deloitte’s Roadmap Earnings per Share.