Half of FASB Correspondents Say Options Plan Understandable

In a  summary of the correspondence it received from its request for public comment, FASB said most of the letter writers who described the option expensing plan as understandable were financial professionals who prepared accounting statements for financial services and accounting firms.

“Those who use financial statements have a certain burden upon them to be sophisticated enough in finance to understand what it is they are reading,” wrote one correspondent from R.G. Associates. “While the accounting disclosures required by the exposure draft are complex, they are understandable – and bring knowledge – to a reader who is willing to spend the time required to educate himself or herself on the subject. In short, the accounting and disclosures will be understandable to someone who wants to understand them.”

The national accounting rulemaker said a majority of their correspondents were financial statement users and their constituents including pension participants – most of which were “form letters” from participants. FASB said few of the letter writers actually addressed the specific components of the expensing plan and that most expressed broad-brush opposition or support.

Other issues addressed in the FASB letters included:

Recognizable compensation  – Fewer than half of the letter writers who addressed the issue of whether options produced recognizable compensation cost disagreed with FASB’s view that they do. Opponents claimed current accounting guidance is adequate and that the FASB plan would discourage companies from launching or keeping employee stock programs. “Let’s be clear,” wrote Wayne Talmadge, “the FASB standard is not in the interest of everyday working men and women. It would effectively disenfranchise them by eliminating the stock option plans that have become such an important part of their compensation and long-range financial planning over the past 15 years.” On the other side was The Jeffrey Company, which wrote simply: “Options are compensation. Not to record them as an expense is wrong.”

Fair value  – Most correspondents touching on whether the fair value of employee options can be reliably measured were on the negative side of the fence. Wrote Cisco: “In summary, we have strong concerns regarding the reliability of the current option pricing models. Including an expense in the financial statements based on these unreliable models will not only cause a lack of comparability, but can result in significantly misstated financial statements for some of the world’s largest companies.”

At its latest meeting earlier this month, FASB said it was sticking to its intention to move forward with the expensing plan and had begun drafting the necessary rules (See FASB Holds Firm to Option Expensing Stance ).

Under FASB’s Exposure Draft issued on March 31, all forms of share-based payments to employees would be treated the same as other forms of compensation by recognizing the related cost in the income statement. The expense of the award generally would be measured at fair value at the grant date (See  The Bottom Line: Expensing Proposition ).  To arrive at this cost, FASB provided several valuation techniques in the Exposure Draft, including a lattice model (an example of which is a binomial model) and a closed-form model (an example of which is the Black-Scholes-Merton formula) that would meet the criteria for estimating the fair values of employee share options.