Issuing stock options to employees triggers at least one, and possibly two reporting requirements.
First, a universal reporting requirement pertains to Section 409A of the Internal Revenue Code (“IRC 409A”). Stock options to be designated “deferred compensation” must bear exercise prices that are above the fair market value of the underlying stock (i.e., the options must be “underwater”).
Second, if your company’s financial statements are subject to outside audit or if your company simply reports its financial results in accordance with Generally Accepted Accounting Principles, then stock options issued in a given reporting period are reported as an expense at the options’ fair value for that period, as spelled out in Accounting Standards Codification topic 718 (Compensation – Stock Compensation) (“ASC 718”).
The appraisal process for stock options typically occurs in two phases:
- determining the value of the Company’s equity; and
- allocating value among various share classes.
A successful stock option valuation process depends on:
- Credibility: The appraisal should be performed independently and in accordance with professional standards, thereby ensuring a smooth compliance process and a credible result.
- Rigor: the equity allocation process in particular is relatively complex, and the appraiser must be comfortable with rigorous quantitative methods.
- Timeliness: The appraisal should be completed prior to issuing stock options to ensure that they qualify as deferred compensation. The appraisal also must be completed in time to complete the financial statement audit.
Clients rely upon Arpeggio Advisors’ credibility, rigor, and timeliness to navigate their stock option appraisal requirements in a manner that minimizes disruption to compliance processes.
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