Stock Options To Be Treated As Equity, Not Liability

The Financial Accounting Standards Board decided last week that employee stock options should be classified on the books as equity, not as liability.

The move was largely in response to concerns raised in letters and roundtables regarding its proposed stock-based compensation standard (available from the box at right).

The decision ends a debate with academics, analysts and others who argue that stock options are a liability. "They look like equity, but they aren't," wrote accounting professor Paul Miller in a Compliance Week guest column back in May. "After all, option holders don't have any of the rights of owners, like voting and receiving dividends."

Miller

"Furthermore," argued Miller, who is also a former FASB staffer, "this liability is wide open in terms of its possible values, and it is payable on demand whenever the option holders pony up the cash and ask for their shares. Unlike equity claims, these liabilities cannot be brushed aside—they simply have to be paid."

The FASB plan, which views options as equity, would force companies to record options on their income statements with a grant-date estimate. As a recent Dow Jones article put it, that "estimate" would ask companies to "make a rough guess about how much the options will set them back at the future date that the staff exercises them."

The Board also reversed a prior decision on how companies should attribute the cost of options with "graded" vesting periods. In the original proposal, awards vesting at different times would need to be treated separately.

According to many who commented on the proposal, doing so would not only be complex to administer and track, but would attribute higher compensation costs during the earlier vesting periods.

The Board decided Wednesday to reinstate a "straight-line" amortization option.

Details on the latest Board meeting, as well as downloadable handouts from the meeting, are available from the box above, right.