SEC Allows More Use of Simpler Options Expensing

December 31, 2007 (PLANSPONSOR.COM) - New regulatory guidance from the U.S. Securities and Exchange Commission (SEC) allows public companies to keep using a simplified method to estimate their stock option expenses.

An SEC news release said its Staff Accounting Bulletin (SAB) 110 permits the simplified method of valuing stock option grants for income statement purposes if the company’s historical experience is not enough to allow a more involved calculation. The agency said without the new SAB, eligible public companies would have lost the option to use the simplified method as of December 31, 2007.

Smaller companies without a long history of exercise data will particularly benefit from the agency’s move, the announcement said.

Under the Financial Accounting Standard that requires the expensing of employee stock options, companies may rely on algorithms such as the widely used Black-Scholes-Merton pricing model to determine the amount of stock option compensation expense. According to the announcement, the Black-Scholes-Merton model, as well as other models, require that the company be able to estimate the expected term of an option grant.

For companies that do not have access to adequate historical data about employee exercise behavior to do this, the SEC issued Staff Accounting Bulletin (SAB 107) in March 2005 that allowed them to use a simplified approach. The 2005 document   set out a simple rule for estimating the expected term of what it called a “plain vanilla” option : the average of the time to vesting and the full term of the option.

According to the agency, SEC staff expected detailed historical information about employee exercise behavior in other companies, such as actuarial studies based on patterns in similar industries or in comparable situations, would soon be available when the earlier document was published.

The announcement said the detailed information about exercise behavior is still not available. As a result, the staff will continue to accept use of the simplified method on an interim basis, provided a company concludes that its own historical share option exercise experience does not provide enough information.

The latest SEC bulletin is here .