This causes the option to be treated under so-called “variable” accounting rules.
These rules require the constant remeasurement of the difference between the exercise price of the stock option and the fair market value of the underlying stock during the life of the option, resulting in constant uncertain impacts on a company’s income statement.
Many companies that have traditionally relied on stock options to attract, retain and incentivize employees are now finding themselves wondering how to deal with “underwater” stock options (i.e., stock options whose exercise price exceeds the fair market value of the underlying stock).
Many such companies are considering “repricing” their stock options as a way to make their stock options more valuable to employees.
Traditionally repricing simply involved canceling the existing stock options and granting new stock options with a price equal to the current fair market value of the underlying stock; but over the years alternative approaches to traditional repricing have been developed to avoid the unfavorable accounting treatment now associated with a simple repricing.
We advise our clients that repricing is not a straightforward process and that they should carefully consider the following three aspects associated with a repricing – corporate governance, tax and accounting aspects.
Accounting Considerations The accounting implications are typically the most troublesome aspect of repricing stock options.
Under present Financial Accounting Standards Board (or “FASB”) rules, the typical employee option grant has no effect on the company’s income statement. This is the case, for example, where the option is granted to an employee subject to a known and fixed number of shares and with a fair market value exercise price.
• A third approach that we have seen clients consider is referred to as a “make up grant”.Footnotes: This rule has been under fairly consistent attack over the last several years and a number of initiatives are ongoing to propose replacement formulations that would result in immediate expensing of all option grants based on some notion of fair value.NEW YORK, June 22, 2006 (PRIMEZONE) -- The law firm of Stull, Stull & Brody announces that a shareholder lawsuit has been commenced against certain members of the board of directors and certain executive officers of Computer Sciences Corp. The complaint alleges that certain current and prior officers and directors manipulated the prices of executive and director stock option grants (a.k.a. Such practice of awarding stock options to executives and directors at artificially low prices is alleged to violate the company's internal documents (such as the company's stock option plan), as well as state laws governing officer and director fiduciary duties and/or federal laws governing securities and taxation.Other issues that should be considered include the terms of the new option grants, including the number of replacement shares and whether to continue the current vesting schedule or introduce a new vesting schedule for the repriced options.Tax Considerations Tax concerns weigh heavily in repricing decisions if the stock options being repriced are incentive stock options (or “ISOs”) under Section §422 of the Internal Revenue Code.