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1.3 Awards within the scope of ASC 718
Publication date: 14 Sep 2023
us Stock-based compensation guide
As described in ASC 718-10-15, ASC 718 applies to all equity-based compensation when a company acquires employee services, or nonemployee goods or services, by:
- Issuing its stock, stock options, or other equity instruments
- Incurring liabilities to pay cash, the amounts of which are based, at least in part, on the price of the company’s stock or other equity instruments
- Incurring liabilities that may be settled through issuance of the company’s stock or other equity instruments.
When equity instruments are provided to an individual who is both an employee/nonemployee service provider and a shareholder, management must analyze the facts and circumstances surrounding the transaction to determine whether the equity instruments were (a) remuneration for services and therefore subject to the guidance in ASC 718, or (b) a transaction with a shareholder on terms commensurate with other non-service-providing shareholders and therefore outside the scope of ASC 718.
ASC 718 addresses all forms of equity-based compensation, including:
- Stock options
- A contract that gives the holder the right, but not the obligation, either to purchase (to call) or to sell (to put) a certain number of shares at a predetermined price for a specified period of time. Most employee stock options are call options in that they give an employee the right to purchase shares of the company.
- Restricted stock and restricted stock units
- Restricted stock is a share of stock granted to an employee for which sale is prohibited for a specified period of time. Most grants of restricted shares to employees are better termed “nonvested shares” because the employees must satisfy certain vesting conditions to earn the rights to the shares, which are, in general, otherwise unrestricted as to transfer. See SC 2.2.4 for further discussion.
- Restricted stock units (RSUs) represent a promise to deliver shares to the employee at a future date if certain vesting conditions are met. The difference between RSUs and restricted stock is primarily the timing of the delivery of the underlying shares. A company that grants RSUs does not deliver the shares to the employee until the vesting conditions are met.
- Stock appreciation rights (SARs)
- A contract that gives the employee the right to receive an amount of stock or cash, the value of which equals the appreciation in a company’s stock price between the award’s grant date and its vesting/exercise date. SARs generally do not involve payment of an exercise price. Regardless of the form of settlement, SARs are subject to the guidance in ASC 718.
- Employee stock purchase plans (ESPPs)
- Designed to promote employee stock ownership by providing employees with a convenient means (usually through a payroll deduction) to acquire a company’s shares. Refer to SC 5 for information on ESPPs.
- Employee stock ownership plans (ESOPs)
- A qualified stock bonus plan, or a combination stock bonus and money purchase pension plan, that is designed to invest primarily in employer stock, and that meets the requirements of the Employee Retirement Income Security Act of 1974 and the Internal Revenue Code. Refer to SC 11 for information on ESOPs.
- Long-term incentive plans (LTIPs)
- Generally, LTIPs are cash-settled plans that reward employees based on a company’s performance over a number of years. LTIPs are within the scope of ASC 718 if the amount earned by the employees is based, even in part, on the price of the company’s stock or other equity instruments. For example, an employee may be entitled to a cash payment if the company’s stock price reaches a specified target price or total shareholder return at the end of five years. Cash-settled LTIPs that have payout triggers linked only to employee service (i.e., time-based vesting) or internal performance conditions (e.g., sales or EBITDA targets) are not within the scope of ASC 718 because they are not tied to the price of the company’s stock.
ASC 718 applies to both public and nonpublic companies; although ASC 718 provides nonpublic companies certain alternatives that are not available to public companies (see SC 6). ASC 718 includes a definition of a public company.
Excerpt from ASC 718-10-20
Public entity: An entity (a) with equity securities that trade in a public market, which may be either a stock exchange (domestic or foreign) or an over-the-counter market, including securities quoted only locally or regionally, (b) that makes a filing with a regulatory agency in preparation for the sale of any class of equity securities in a public market, or (c) that is controlled by an entity covered by (a) or (b).
This definition focuses solely on equity securities. Therefore, a company that has publicly traded debt and no publicly traded equity securities would not be a public entity for purposes of applying ASC 718. Once a company files for an initial public offering of equity securities (e.g., the date the initial prospectus is filed with the SEC), it is considered a public company. We believe this would include a company that has made a confidential submission of financial statements to the SEC under the JOBS Act in anticipation of a public offering of equity securities. A company whose equity securities are traded on “Pink Sheets” is also considered a public company. The “Pink Sheet” market is a form of over-the-counter trading. It is not an exchange, but stock price quotations are available to any investor who subscribes to the National Quotation Bureau’s Pink Sheet service. Thus, an entity with equity securities traded in this manner, even if not required to make periodic filings with the SEC, would meet the ASC 718 definition of a public entity.
The following entities would also be considered a public entity under the definition in ASC 718 because they are controlled by an entity with equity securities that trade in a public market:
- A US subsidiary of a parent company whose equity securities are publicly traded in a non-US jurisdiction.
- A subsidiary (Company A) that does not have publicly-traded equity securities but is controlled by a private equity fund (Fund) that in turn is controlled by a public company (Company B) with publicly traded equity securities. Company B accounts for its investment in Fund at fair value (in accordance with the Investment Company Act of 1940) rather than consolidating Fund and its controlled subsidiaries, including Company A. In this scenario, Company A would be considered a public entity under ASC 718.
- A limited liability partnership (LLP) that does not have publicly-traded equity securities but is considered a variable interest entity under ASC 810, Consolidation, and is subject to consolidation by another entity (Company C) that is the primary beneficiary of the LLP and that has publicly-traded equity. Due to the LLP being consolidated by Company C under ASC 810, the LLP is considered to be controlled by a public entity. Therefore, the LLP would meet the definition of a public entity under ASC 718.
- A joint venture formed by two companies, Company X and Company Y. Company X has publicly traded equity securities; Company Y does not. If the joint venture is consolidated by Company X and accounted for under the equity method by Company Y, the joint venture would be considered a public entity under ASC 718. However, if the joint venture is consolidated by Company Y and accounted for under the equity method by Company X, the joint venture is not a public entity under ASC 718.
The FASB codification contains multiple definitions of “public entity,” “public business entity,” “publicly traded company,” and “nonpublic entity.” Each of these definitions was developed at a different time and in the context of specific standards. An entity that fails to meet the definition of a publicly traded company or public entity under the definitions in other standards may still be a “public entity” under the ASC 718 definition, and vice versa.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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