Stock compensation

The predominant cost for many companies is the cost of human capital.  Attracting and retaining talented employees generally results in an expectation of the use of stock-based compensation.  Stock-based compensation, if structured properly, also has the added advantage of aligning management's interests with investors' interests. 

However, the design and structure of stock-based compensation programs is a complex accounting area, as plans with similar economic payouts can result in drastically different accounting outcomes.  Slight differences in structures and plan designs can result in dramatically different results in terms of amount of expense recognized, the timing of the expense recognition, the volatility of the amount of expense recognized period to period, and the classification of the award between equity and liability. Stock-based compensation plans also have added complexities in areas such as valuation, deferred tax accounting, cash flow reporting, disclosures, and earnings per share calculations. Modification of existing awards as well as new awards created in more complex capital structures may also result in significant accounting ramifications.

Other employee benefits and compensation can also be areas of significant accounting complexity, particularly with respect to defined benefit retirement plans.  The accounting mechanics related to the various techniques to smooth and defer defined benefit plan costs and the relationship to other comprehensive income is complex.  The timing of recognition and measurement of significant events such as plan curtailments and settlements can be confusing under current accounting literature. Defined benefit plans, deferred compensation, restructuring and exit costs, postemployment benefits, and employee share ownership plans (ESOPs) round out the list of complex compensation and benefits accounting.

PwC’s experience can help in understanding the implications of the accounting for stock compensation and other employee benefit arrangements. Accordingly, companies can better align their HR strategies to the accounting issues.

Chad Kokenge, Partner

Impacts to companies:

  • Plan design will impact and may be structured to achieve a better alignment between management objectives and financial reporting.
  • The accounting for employee stock-based compensation, but also will impact related valuation requirements, deferred income tax accounting, the calculation of earnings per share, the cash flow statement presentation, and other disclosures.
  • The accounting complexities associated with measuring stock based compensation and defined benefit plans, may impact a company's use of other additional resources including valuation specialists and actuaries.

What companies should do:
When developing a stock compensation plan, companies should consider:

  • Defined benefit plans and other employee compensation and benefits require application of complex accounting rules.
  • Certain stock-based compensation plan structures can result in significant income statement charges if not structured properly, e.g. make-whole provisions for equity restructurings, tax withholding requirements, and repurchase features.
  • Service, performance or market conditions, or combinations thereof, will impact timing and manner of expense recognition, exercisability, equity/liability classification, and measurement of fair value.
  • Liability classified awards that may result in measuring the award at fair value every reporting period, with changes recorded in the income statement.

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