Chapter 19 Restricted stock refers to shares actually

Chapter 19 Share-Based Compensation and Earnings per

Share

QUESTIONS FOR REVIEW OF KEY TOPICS

Question 19–1

Restricted stock refers to shares actually awarded in the name of an employee,

although the employer might retain physical possession of the shares. Typically, the

employee has all rights of a shareholder, but the shares are subject to certain

restrictions or forfeiture. Usually the employee is not free to sell the shares during the

Question 19–2

The fair value of a stock option is determined by employing a recognized option

Answers to Questions (continued)

Question 19–3

The recipient pays no tax at the time of the grant or the exercise of the options

under an incentive plan. Instead, the tax on the difference between the option price

Question 19–4

For performance-based options initial estimates of compensation cost as well as

subsequent revisions of that estimate take into account the likelihood of both

forfeitures and achieving performance targets. If it is probable that the performance

Answers to Questions (continued)

Question 19–5

A firm has a simple capital structure if it has no potential common shares

Question 19–6

There is a fundamental difference between the increase in shares caused by stock

dividends and stock splits and an increase from selling new shares. When additional

shares are sold, both the assets of the firm and shareholders’ equity are increased by

19–4 Intermediate Accounting, 8/e

Answers to Questions (continued)

Question 19–7

The weighted-average number of shares for calculating EPS would be 104,500

determined as follows:

Question 19–8

Preferred dividends are deducted from the numerator in the EPS fraction so that

Question 19–9

Question 19–10

When calculating diluted EPS, we assume that the shares specified by stock

Answers to Questions (continued)

Question 19–11

The potentially dilutive effect of convertible bonds is reflected in diluted EPS

calculations by assuming the bonds were converted into common stock. The

Question 19–12

The potentially dilutive effect of convertible preferred stock is reflected in diluted

EPS calculations by assuming the preferred stock was converted into common stock,

just as is done with convertible bonds. The conversion is assumed to have occurred at

Question 19–13

The order in which convertible securities are included in the dilutive EPS

Answers to Questions (continued)

Question 19–14

For the treasury stock method, “proceeds” include (1) the amount, if any, received

Question 19–15

Contingently issuable shares are considered outstanding in the computation of

diluted EPS when they will later be issued upon the mere passage of time or because

of conditions that currently are met. If this year’s operating income was $2.2 million,

Answers to Questions (continued)

Question 19–16

The calculation of diluted EPS assumes convertible bonds had been converted at

the beginning of the year (unless they actually were issued later). If they actually had

Question 19–17

EPS data (both basic and diluted for a complex capital structure) must be

Question 19–18

Disclosure notes should include (a) a summary description of the rights and

19–8 Intermediate Accounting, 8/e

Answers to Questions (concluded)

Question 19–19

The fair value of stock options has two essential components: (1) intrinsic value

Question 19–20

The accounting treatment of SARs depends on whether the award is considered an

equity instrument or a liability. If the employer can choose to settle in shares rather

than cash, the award is considered to be equity. If the employee will receive cash or

can choose to receive cash, the award is considered to be a liability. This is the case

BRIEF EXERCISES

Brief Exercise 19–1

$6 fair value per share

x 8 million shares granted

= $48 million fair value of award

Brief Exercise 19–2

$10 fair value per share

x 16 million shares represented by RSUs shares granted

= $160 million fair value of shares represented by RSUs

Brief Exercise 19–3

$5 fair value per option

19–10 Intermediate Accounting, 8/e

Brief Exercise 19–4

The company should adjust the cumulative amount of compensation expense

recorded to date in the year the estimate changes.

2017

2018

Compensation expense ([$60 x 95% x 3/3] – 20 – 18) …………. 19

Paid-in capital—stock options ……………………………………… 19

Brief Exercise 19–5

($ in millions)

Cash ($17 exercise price x 12 million shares) …………………. 204

Brief Exercise 19–6

Paid-in capital—stock options (account balance) ………… 60

Paid-in capital—expiration of stock options ………. 60

Brief Exercise 19–7

The estimate of the total compensation would be:

Brief Exercise 19–8

The new estimate of the total compensation would change to:

19–12 Intermediate Accounting, 8/e

Brief Exercise 19–9

In that case, in 2017, the revised estimate of the total compensation would change to

$600,000:

Farmer would reflect the cumulative effect on compensation in 2017 earnings and

record compensation thereafter:

2017

Compensation expense ([$600,000 x 2/3] – 0) 400,000

Brief Exercise 19–10

If an award contains a market condition such as the stock price reaching a specified

level, then no special accounting is required. The fair value estimate of the share

option ($6) already implicitly reflects market conditions due to the nature of share

option pricing models. So, Farmer recognizes compensation expense regardless of

when, if ever, the market condition is met. The estimate of the total compensation

would be:

Brief Exercise 19–11

(amounts in millions, except per share amount)

Brief Exercise 19–12

(amounts in millions, except per share amount)

19–14 Intermediate Accounting, 8/e

Brief Exercise 19–13

24,000 shares – 20,000 shares* = 4,000 shares

*Purchase of treasury shares

Brief Exercise 19–14

(amounts in thousands, except per share amounts)

Basic EPS

Diluted EPS

• The preferred shares are considered converted when calculating diluted EPS. If

converted, there would be no preferred dividends.

Brief Exercise 19–15

The total compensation for the award is $45 million ($5 market price per share x 9

million shares). Because the stock award vests over three years, it is expensed as $15

million each year for three years. At the end of 2016, the second year, $30 million

No adjustment to the numerator

9 million – 3* million = 6 million

*Assumed purchase of treasury shares

19–16 Intermediate Accounting, 8/e

EXERCISES

Exercise 19–1

Requirement 1

Requirement 2

December 31, 2016 ($ in millions)

Compensation expense ($80 million ÷ 2 years) … 40

Paid-in capital—restricted stock …………….. 40

December 31, 2017

Exercise 19–2

Requirement 1

Requirement 2

no entry

Requirement 3

Requirement 4

Compensation expense ($30 million ÷ 3 years) … 10

Paid-in capital—restricted stock …………….. 10

Requirement 5

Exercise 19–3

Requirement 1

$29.98 x 53,344,000 shares = $1,600 million

The $1,600 million total compensation is expensed over the four-year vesting

period, $400 million each year. During 2013, the expense is the appropriate portion of

Requirement 2

($ in millions)

Paid-in capital—restricted stock

Exercise 19–4

Requirement 1

Requirement 2

no entry

Requirement 3

($ in millions)

Requirement 4

$22.50 fair value per share

Exercise 19–5

Requirement 1

Requirement 2

no entry

Requirement 3

($ in millions)

Compensation expense ($12 million ÷ 2 years) … 6

Requirement 4