CHAPTER 34 SHARE-BASED PAYMENT

Introduction Salary, pension and other benefits often form part of an executive’s employment package A share-based payment is a transaction in which an entity receives or acquires goods or services either as consideration for its equity instruments or by incurring liabilities for amounts based on the price of the entity’s shares or other equity instruments of the entity IFRS 2 Share-based Payment sets out measurement principles and specific requirements for three types of share-based payment transactions: 1. Equity-settled share-based payment transactions 2. Cash-settled share-based payment transactions 3. Share-based payment transactions with cash alternatives

1. Equity-settled share-based payment transactions Measure goods or services received, and corresponding increase in equity (recognised in OCI), at FV of goods and services received If FV cannot be estimated reliably, then measure their value by reference to the FV of the equity instruments granted

Example 34.4: Share options for goods A company issues share options in order to pay for the purchase of inventory. The share options were issued on 1 June 2010. The inventory was eventually sold on 31 December 2012. The value of the inventory on 1 June 2010 was €6 million and this value was unchanged up to the date of sale. The sale proceeds were €8 million. The shares issued have a market value of €6.3 million. Requirement How will this transaction be dealt with in the financial statements? Solution IFRS 2 states that the FV of the goods and services received should be used to value the share options unless the FV of the goods cannot be measured reliably. Thus equity would be increased by €6 million and inventory increased by €6 million. The inventory value will be expensed on sale (DR SPLOCI – P/L and CR Equity).

Transactions with employees and others providing similar services FV of the services received are referred to the FV of the equity granted, as it is not possible to estimate reliably the FV of the services received FV of equity should be measured at the grant date Typically, share options are granted to employees as part of their remuneration package Usually, it is not possible to measure directly the services received for particular components of the employee’s remuneration package It might also not be possible to measure the FV of the total remuneration package independently without measuring directly the FV of equity instruments granted

Example 34.5: Share options for employee services A company granted a total of 100 share options to 10 members of its executive management team (10 options each) on 1 January 2012. These options vest at the end of a three-year period. The company has determined that each option has a FV at the date of grant equal to €15. The company expects that all 100 options will vest and therefore records the following entry at 30 June 2012 (the end of its first six-month interim reporting period). DR SPLOCI – P/L – salaries €250 CR Equity €250 [(100 x €15) / 6 periods = €250 per period] If all 100 shares vest, the above entry would be made at the end of each 6-month reporting period. However, if one member of the executive management team leaves during the second half of 2012, therefore forfeiting the entire amount of 10 options, the following entry at 31 December 2012 would be made: DR SPLOCI – P/L – salaries €150 CR Equity €150 [(90 x €15) / 6 periods = €225 per period (€225 x 4) – (€250 + €250 + €250) = €150]

Vesting conditions Equity instruments may contain conditions which must be met before entitlement to the shares Conditions related to the market price of shares are ignored for the purposes of estimating the number of equity shares that will vest (on the basis these have been taken into account when fair-valuing the shares) Because of the difficulty of measuring the FV of the services received, this is done with reference to the FV of the equity instrument granted There is no reversal of amounts previously recognised if options are forfeited or are not exercised

Example 34.6: Share options with vesting conditions A company grants 2,000 share options to each of its three directors on 1 January 2012 subject to the directors being employed on 31 December 2014. The options vest on 31 December 2014. The FV of each option on 1 January 2012 is €10 and it is anticipated that all of the share options will vest on 31 December 2014.The options will only vest if the company’s share price reaches €14 per share. The price at 31 December 2012 was €8 and it is not anticipated that it will rise over the next two years. It is anticipated that there will only be two directors employed on 31 December 2014. Requirement How will the share options be treated in the financial statements for the year ended 31 December 2012? Solution The market based condition i.e. the increase in the share price can be ignored for the purpose of the calculation. However the employment condition must be taken into account. The options will be treated as follows: 2,000 options x 2 directors x €10 x 1year/3 years = €13,333. Equity will be increased by this amount and an expense shown in the SPLOCI – P/L for the year ended 31 December 2012.

Modification of terms and conditions Terms of a share-based payment transaction may be modified For example, by altering the exercise price, the number of shares granted or the vesting conditions Must recognise at least the amount that would have been recognised had the terms not changes, together with any incremental cost over the remaining vesting period

Example 34.7: Modification of terms and conditions On 1 January 2010, Twentitle Limited granted 100 share options to each of its 250 employees, with each of the share options being conditional upon the employee working for Twentitle Limited until 31 December 2012. At the grant date, the FV of each share option was €12.00. During 2010, 10 employees left Twentitle Limited and the company’s directors estimated that a total of 10% of the 250 employees would leave during the three-year period 2010-12. At the beginning of 2011, Twentitle Limited modified the terms and conditions of the share option by reducing the exercise price. This had the effect of increasing the FV of a share option at the beginning of 2011 by €7.00. During 2011, a further six employees left the company and the directors revised their estimate of the total number of the 250 employees to 8% that would leave the company during the three-year period 2010-12. During 2012, a further five employees left the company. Requirement Calculate the remuneration expense that should be recognised in Twentitle Limited’s financial statements in respect of the share-based payment agreement for each of the three years 2010-12.

Example 34.7: Modification of terms and conditions Solution 2010: It is estimated that 25 employees would leave the company (10% x 250). Therefore 225 employees will be eligible under the scheme. 225 employees x €12 = €2,700 / 3 years = €900 DR SPLOCI – P/L €900 CR Equity – Share Options Reserve €900

Example 34.7: Modification of terms and conditions Solution 2011: It is estimated that 20 employees would leave the company (8% x 250). Therefore 230 employees will be eligible under the scheme. € 230 employees x €12 = €2,760 / 3 x 2 years 1,840 230 employees x €7 = €1,610 / 2 years 805 Less charged in 2010 in SPLOCI – P/L (900) 1,745 DR SPLOCI – P/L €1,745 CR Equity – Share Options Reserve €1,745

Example 34.7: Modification of terms and conditions Solution 2012: In total over the three years, 21 employees left the company (10 + 6 + 5). Therefore 229 employees are eligible under the scheme. € 229 employees x €12 2,748 229 employees x €7 1,603 Less charged in 2010 and 2011 in SPLOCI – P/L (€900 + €1,745) (2,645) 1,706 DR SPLOCI – P/L €1,706 CR Equity – Share Options Reserve €1,706

Cancellation or settlement If equity-settled share-based transactions are cancelled or settled, then the entity must immediately recognise any amount that would otherwise have been recognised over a vesting period Any payments up to the FV of the equity instruments granted at cancellation or at settlement is a repurchase of an equity interest (i.e. DR Equity) Any payment in excess of the FV of equity instrument granted at cancellation or at settlement is recognised as an expense in arriving at profit or loss in the SPLOCI – P/L

2. Cash-settled share-based payment transactions Where goods and services are paid for at amounts based upon the price of a company’s equity instruments (e.g. share appreciation rights) The expense is the cash paid by the company Goods and services acquired and liability incurred should be measured at the FV of the liability Until the liability is settled, the entity should re-measure the fair value of the liability at each reporting date and at the date of settlement, with any changes in fair value recognised in SPLOCI – P/L The services received, and the liability, should be recognised as the services are rendered

Red plc granted 300 share appreciation rights to each of its 500 employees on 1 August 2012. Management believe that as at 31 July 2013, Red plc’s year end, 80% of the awards will vest on 31 July 2014. The fair value of each share appreciation right on 31 July 2013 is €15. Requirement What is the fair value of the liability to be recorded in the financial statements for the year ended 31 July 2013? Solution 300 rights x 500 employees x 80% x €15 x 1year/2year = €900,000 (DR SPLOCI – P/L and CR SFP – liability)

3. Share-based payment transactions with cash alternatives Where the terms of the arrangement provide either the entity or the counterparty with the choice of whether the entity settles the transaction in cash (or other assets) or by issuing equity instruments, the entity should account for that transaction, or the components of that transaction, as a cash-settled share-based payment transaction if, and to the extent that, the entity has incurred a liability to settle in cash or other assets, or as an equity-settled share- based payment transaction if, and to the extent that, no such liability has been incurred.

Disclosures IFRS 2 requires extensive disclosure requirements under three main headings: Information that enables users of financial statements to understand the nature and extent of the share based payment transactions that existed during the period Information that allows users to understand how the FV of the goods or services received or the FV of the equity instruments which have been granted during the period was determined Information that allows users of financial statements to understand the affect of expenses which have arisen from share based payment transactions on the entities income statement in the period