Ind AS 102 – Share based payment : Moving from Intrinsic value to Fair Value
1. Background
Entities often grants shares, share options or other equity instruments to employees as part of their remuneration package, in addition to a cash salary and other employment benefits, so as to motivate its employees. Some entities also issue shares or share options to pay suppliers, such as payment to be made for obtaining professional services. By granting shares or share options,the entity may aim toobtain some additional benefits or make an attempt to retain its employees and vendors.
Indian Accounting Standards (herein referred to as ‘Ind AS’) have been notified by Govt. of India in Feb 2015 and these standards can be voluntarily applied from FY 15-16 onwards.In Ind AS, Share based payments are dealt by Ind AS 102 which is corresponding to a Guidance note on accounting for employee share-based payments in present Accounting Standards (or say Indian GAAP).Given below parassummarizesthe challenges which might be faced by entities which shall be adopting Ind AS 102.
2. Objective of Ind AS 102
The objective of Ind AS 102 is to specify the financial reporting by an entity when it undertakesshare-based payment transaction. In other words, it requires an entity to reflect in its profit or loss and financial position the effects of share-based payment transactions, including expenses associated with transactions in which share options are granted to employees.
Ind AS 102 covers following type of share based payment transactions:
(a) Equity-settled share-based payment transactions.
(b) Cash-settled share-based payment transactions.
(c) Share-based payment transactions where there is a choice of settlement between equity settled or cash settled.
An entity might acquire goods (or other non-financial assets) as part of the net assets acquired in a business combination for which the consideration paid included shares or other equity instruments issued by the entity. Because Ind AS 103 applies to the acquisition of assets and issue of shares in connection with a business combination, that is the more specific standard that should be applied to that transaction. Therefore, equity instruments issued in a business combination in exchange for control of the acquiree are not within the scope of Ind AS 102. However, equity instruments granted to employees of the acquiree in their capacity as employees, eg in return for continued service, are within the scope of Ind AS 102. Also, the cancellation, replacement, or other modifications to share-based payment arrangements because of a business combination or other equity restructuring should be accounted for in accordance with Ind AS 102.
3. Current practices
Under existing Indian GAAP, there is no mandatory standard which deals with the share based payments. Employee share-based transactions are accounted for as per the accounting treatment prescribed the Guidance Note on Employee Share-based Payments.
Under the guidance note, the employee compensation costs are calculated either using the intrinsic value or fair value method of accounting for options issued under various Employee Stock Option Schemes. If the fair value of the share and the exercise price of the share were same on the grant date then no accounting charge is required to be recorded by the entity.
Further, the entity has to give additional disclosure in case intrinsic value method is adopted:
✓ Difference between the employee compensation cost so computed as per intrinsic method and the employee compensation cost that shall have been recognised if it had used the fair value of the options.
✓ The impact of above difference on profits and on earnings per share of the entity.
Difference between Intrinsic value and Fair value
| Particulars | Intrinsic value as per guidance note | Intrinsic value as per Ind AS 102 | Fair value as per Ind AS 102 |
| Definition | Intrinsic value is the amount by which the quoted market price of the underlying share in case of listed enterprise or the value of the underlying share determined by an independent valuer in case of an unlisted enterprise, exceeds the exercise of an option | The difference between the fair value of the shares to which the counterparty has the (conditional or unconditional) right to subscribe or which it has the right to receive, and the price the counterparty is (or will be) required to pay for those shares.
For example: A share option with an exercise price of Rs. 15, on a share with a fair value of Rs. 20, has an intrinsic value of Rs. 5 ( Rs 20-15) | The amount for which an asset could be exchanged, a liability settled, or an equity instrument granted could be exchanged, between knowledgeable, willing parties in an arm’s length transaction. |
Calculation Method | Intrinsic value = quoted market price or value determined by valuer less Exercise price | Intrinsic value = FV of share less Exercise price | Using valuation techniques like Black Scholes option pricing model. |
4. Measurement guidance under Ind AS 102
Ind AS 102 will require accounting using the fair value method. The standard requires the determination of the fair value of the options (as against the fair value of share under intrinsic value method) and recording of such costs over the vesting period of such option.
For transactions measured by reference to the fair value of the equity instruments granted, an entity shall measure the fair value of equity instruments granted at the measurement date, based on market prices if available, taking into account the terms and conditions upon which those equity instruments were granted.
If market prices are not available, the entity shall estimate the fair value of the equity instruments granted using a valuation technique to estimate what the price of those equity instruments would have been on the measurement date in an arm’s length transaction between knowledgeable, willing parties.
The valuation technique shall be consistent with generally accepted valuation methodologies for pricing financial instruments, and shall incorporate all factors and assumptions that knowledgeable, willing market participants would consider in setting the price. The commonly used technique to determine fair value of options is Black Scholes.
If the fair value of the equity instruments cannot be estimated reliably
In rare cases, the entity may be unable to estimate reliably the fair value of the equity instruments granted at the measurement date, the entity shall instead:
(a) measure the equity instruments at their intrinsic value, initially at the date the entity obtains the goods or the counterparty renders service and subsequently at the end of each reporting period and at the date of final settlement, with any change in intrinsic value recognised in profit or loss.
(b) For a grant of share options, the share-based payment arrangement is finally settled when the options are exercised, are forfeited (eg upon cessation of employment) or lapse (eg at the end of the option’s life).
| Ind AS 102 uses the term ‘fair value’ in a way that differs in some respects from the definition of fair value in Ind AS 113, Fair Value Measurement. Therefore, when applying Ind AS 102 an entity measures fair value in accordance with Ind AS 102, not Ind AS 113. |
Key points on moving from intrinsic value method to fair value:
1. Recognition of higher share based payment related cost and hence impacting the EBITDA and earnings per share,
2. Detailed disclosures would be required under Ind AS 103 and
3. Significant changes in the profitability ratios.
5. Transition Provision underInd-AS 101
A first-time adopter is encouraged, but not required, to apply Ind AS 102 to equity instruments that vested before date of transition to Ind ASs. However, if a first-time adopter elects to apply Ind AS 102 to such equity instruments, it may do so only if the entity has disclosed publicly the fair value of those equity instruments, determined at the measurement date, as defined in Ind AS 102. For all grants of equity instruments to which Ind AS 102 has not been applied (eg, equity instruments vested but not settled before date of transition to Ind ASs), a first time adopter shall nevertheless disclose the information required by Ind AS 102.If a first-time adopter modifies theterms or conditions of a grant of equity instruments to which Ind AS 102 hasnot been applied, the entity is not required to apply paragraphs 26–29 of IndAS 102 if the modification occurred before the date of transition to Ind ASs.
Further, a first-time adopter is encouraged, but not required, to apply Ind AS 102 to liabilities arising from share-based payment transactions that were settled before the date of transition to Ind ASs.
6. Conclusion
Companies will have to undertake detailed study and analyse all the terms and conditions of all share based arrangements (with employees and its non-employees)to determine its counter effect on the financial statements including disclosure requirements. Companies may take the benefit of voluntarily exemptions available under Ind AS 101 as a first time adopter.