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Accounting for compound share-based payment option under Ind AS 102

Question

On 01.04.20X1, Bright Limited (herein referred to as "the company") issued a share-based option to its 100 employees which can be exercised in cash or equity (at the option of employees) and it has the following features:

The accountant of the company wants to know the accounting for recognizing the share options given to employees in the following cases-

(a) At the end of the vesting period, employees exercised the option of receiving cash

(b) At the end of the vesting period, employees exercised the option of receiving shares

Relevant Provisions

Ind AS 102: Share-Based Payment

Para 35: Share-based payment transactions in which the terms of the arrangement provide the counterparty with a choice of settlement

• If an entity has granted the counterparty the right to choose whether a share-based payment transaction is settled in cash or by issuing equity instruments, the entity has granted a compound financial instrument
• Such compound financial instrument includes a debt component (i.e. the counterparty's right to demand payment in cash) and an equity component (i.e. the counterparty's right to demand settlement in equity instruments rather than in cash).

For transactions with parties other than employees, in which the fair value of the goods or services received is measured directly, the entity shall measure the equity component of the compound financial instrument as the difference between the fair value of the goods or services received and the fair value of the debt component, at the date when the goods or services are received.

Para 36:

For other transactions, including transactions with employees, the entity shall measure the fair value of the compound financial instrument at the measurement date, taking into account the terms and conditions on which the rights to cash or equity instruments were granted.

Para 37:

• To apply paragraph 36, the entity shall first measure the fair value of the debt component,
• and then measure the fair value of the equity component taking into account that the counterparty must forfeit the right to receive cash in order to receive the equity instrument.
• The fair value of the compound financial instrument is the sum of the fair values of the two components.
• However, share-based payment transactions in which the counterparty has the choice of settlement are often structured so that the fair value of one settlement alternative is the same as the other. For example, the counterparty might have the choice of receiving share options or cash-settled share appreciation rights. In such cases, the fair value of the equity component is zero, and hence the fair value of the compound financial instrument is the same as the fair value of the debt component.
• Conversely, if the fair values of the settlement alternatives differ, the fair value of the equity component usually will be greater than zero, in which case the fair value of the compound financial instrument will be greater than the fair value of the debt component.

Para 40:

• If the entity pays in cash on settlement rather than issuing equity instruments, that payment shall be applied to settle the liability in full.
• Any equity component previously recognised shall remain within equity. By electing to receive cash on settlement, the counterparty forfeited the right to receive equity instruments.
• However, this requirement does not preclude the entity from recognising a transfer within equity, i.e. a transfer from one component of equity to another.

Conceptual Framework for Financial Reporting under Ind AS

Para 4.39: Liability

Obligations to transfer an economic resource include, for example:

(a) obligations to pay cash.

(b) obligations to deliver goods or provide services.

(c) obligations to exchange economic resources with another party on unfavourable terms. Such obligations include, for example, a forward contract to sell an economic resource on terms that are currently unfavourable or an option that entitles another party to buy an economic resource from the entity.

(d) obligations to transfer an economic resource if a specified uncertain future event occurs.

(e) obligations to issue a financial instrument if that financial instrument will oblige the entity to transfer an economic resource.

Para 4.65: Equity

Different classes of equity claims, such as ordinary shares and preference shares, may confer on their holders different rights, for example, rights to receive some or all of the following from the entity:

(a) dividends, if the entity decides to pay dividends to eligible holders;

(b) the proceeds from satisfying the equity claims, either in full on liquidation or in part at other times; or

(c) other equity claims.

Para 4.64:

Equity claims are claims on the residual interest in the assets of the entity after deducting all its liabilities. In other words, they are claims against the entity that do not meet the definition of a liability. Such claims may be established by contract, legislation or similar means, and include, to the extent that they do not meet the definition of a liability:

(a) shares of various types, issued by the entity; and

(b) some obligations of the entity to issue another equity claim.

Analysis of Provisions

(a) In the given case, Bright Ltd has issued a share-based option wherein the company has granted the employees the right to choose whether a share-based payment transaction is settled in cash or by issuing equity instruments, therefore Bright Ltd has granted a compound financial instrument as per para 35 of Ind AS 102. Since share-based options have been issued to employees, the measurement of fair value of options will be in accordance with Paras 36 and 37 of Ind AS 102 as above.

(b) Employee Benefits Expense as on the grant date of option i.e. 1st April 20X1

(c) Employee Benefits Expense as on year-end 1 i.e. 31st March 20X2

(d) Employee Benefits Expense as on year-end 2 i.e. 31st March 20X3

Employee Benefit Expense to be recognised in 2nd year i.e. 20X2-20X3

(e) As on the date of settlement i.e. 31.03.20X3 if employees exercised the option of receiving cash

(f) As on the date of settlement i.e. 31.03.20X3 if employees exercised the option of receiving equity

(g) Journal Entries required to be passed in the books

(a) If employees exercised the option of receiving cash

(b)If employees exercised the option of receiving shares

A question would arise over showing the equity component of the entity's obligation towards employees' benefit expenses booked as a reserve account (Share-Based Payment - Reserve A/c) as part of equity instead of as a liability (i.e. as part of Share-Based Payment - Liability A/c).

In this regard, the following may be noted.

• Para 4.39(e) of the Conceptual Framework obligates an entity to record a liability as regards the obligation to issue financial instrument(equity shares to employees under ESOPs) only when the entity is under a concrete obligation to transfer an economic resource on the issuance of a financial instrument. There is no such concrete obligation in the instant case.
• A guidance can be taken from a combined reading of para 4.65 and 4.64 of the Conceptual Framework, that the part of stock option which cannot be classified as liability can be considered as a part of equity.
• The above journal entries are also supported by the study material issued by the Board of Studies of ICAI.
• However, there is no stipulation in Ind AS 102 as to how the Share-Based Payment - Reserve A/c should be presented in Equity. It would not be proper to present it in a manner that may mislead users into taking it to be a free reserve. Nor should it be presented in the Statement of Other Comprehensive Income (OCI). An appropriate presentation would be to reflect Share-Based Payment - Reserve A/c in Other Equity

Conclusion

The accountant of Bright Limited shall account for the options given to employees as given above and pass the above journal entries to record the same in the books.

That’s it from us for today! Stay Tuned for more updates from Taxmann.com.

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