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The increased use of stock-based compensation and, more noteworthy, the extension of participation further down the corporate ranks and across borders has made it increasingly important for HR professionals to understand the impact of Financial Accounting Standard (FAS) 123 on plan design. An understanding of FAS 123 enhances the HR professional's effectiveness in addressing and meeting the objectives of equity participation. This article provides a high-level review of FAS 123 and is intended to contribute to the knowledge base of HR professionals so they can fully participate as strategic business partners in the arena of stock-based compensation design alternatives.
FAS 123 Purpose
FAS 123 was developed in response to criticism of Accounting Principles Board Opinion (APB 25), which produces anomalous results with respect to various stock plans and measures the cost of stock options using only the intrinsic value. (See "FAS 123 vs. APB 25" on page 56.) FAS 123 is based on the precept that a stock option has an inherent value that can and should be measured to better reflect what the Financial Accounting Standards Board (FASB) calls the "fair value." Thus, a stock option grant with an initial intrinsic value of zero has a fair value because of its potential, at some point over the life of the option, to be "in the money" and to result in stock appreciation for the option holder. The issue is how to determine and report this fair value.
As a result of the controversies surrounding accounting for stock issued to employees and whether APB 25 is a valid methodology, FASB issued a compromise standard. FAS 123 provides companies with the flexibility to continue to report their financial statements using APB 25 or by adopting FAS 123. By choosing to use APB 25, companies are able to continue to grant stock options that, if structured properly, will not result in compensation expense. It should be noted that companies are required to select one accounting methodology for all stock-based compensation programs. Companies are not permitted to select APB 25 for one stock-based program and FAS 123 for another stock-based program. Additionally, once a company adopts FAS 123, it is not permitted to reverse methodologies and resume accounts under APB 25.
Companies electing to continue reporting under...