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Some awards stipulate that the employee will receive the dividends paid on the underlying shares while the option award is outstanding or restricted stock award (or RSU) is unvested. The guidance in this section applies when employees receive dividends on a recurring basis; for example, when a dividend is declared annually and the award holders are entitled to the dividend each year. Large, non-recurring dividends are accounted for as an equity restructuring (refer to SC 4.5). In some circumstances, judgment may be required to determine whether a dividend payment should be accounted for as an equity restructuring, as the guidance does not define "large" or "non-recurring."

2.9.1 Effect of dividends on grant date fair value

If an option award or an RSU is entitled to participate in dividends, that entitlement should be incorporated in the measurement of the grant date fair value. For an RSU, the grant date fair value (i.e., the stock price) would already contemplate the expectation of future dividends. However, for an option that is entitled to participate in dividends, the expected dividend yield assumption would be set to zero so as not to reduce the value of the option.

2.9.2 Dividends paid on liability-classified awards

All dividends paid on awards classified as liabilities are accounted for as additional compensation cost.

2.9.3 Dividends paid on equity-classified awards

The accounting for dividends paid on awards classified as equity depends on whether the dividends are forfeitable or nonforfeitable.

2.9.3.1 Nonforfeitable dividends on stock-based awards

Nonforfeitable dividends (i.e., those that recipients may keep once paid, even if they forfeit the underlying stock award) paid on awards classified as equity are accounted for as follows:
  • For awards that are expected to vest, nonforfeitable dividends paid on equity-classified awards are recognized as reductions in retained earnings.
  • For awards that are not expected to vest or do not ultimately vest, nonforfeitable dividends paid are accounted for as additional compensation cost.
For companies that elect to estimate forfeitures, the accounting treatment of nonforfeitable dividends paid on equity-classified awards should be based on the company's estimate of the awards expected to vest. The estimate of the awards expected to vest should be adjusted when the forfeiture rate assumption is adjusted and trued up for actual forfeitures. For example, a reclassification from retained earnings to compensation cost would be necessary to account for dividends paid on awards originally expected to vest that are ultimately forfeited.
Companies that elect to account for forfeitures when they occur should initially record all dividends paid on equity-classified awards to retained earnings and then reclassify the amount of non-forfeitable dividends previously charged to retained earnings relating to awards that are forfeited to compensation cost in the period the forfeitures occur.

2.9.3.2 Forfeitable dividends on stock-based awards

Dividends paid on equity-classified awards are often subject to the same vesting conditions as the underlying awards. An example is a dividend on an unvested restricted stock award that is not paid to the employee until the restricted stock vests. Such dividends are forfeited if the award is forfeited. These dividends are forfeitable (as opposed to nonforfeitable) and therefore, would not result in the recognition of additional compensation cost as long as the award is equity-classified.
When the dividend is declared, companies that elect to account for forfeitures when they occur should recognize a debit to retained earnings and a credit to dividend payable for all awards (see FG 4.4.2). If an award (and the associated dividend) is ultimately forfeited, that entry is reversed with a debit to dividends payable and a credit to retained earnings. The reversal entry would be made in the period in which the forfeitures occur.
Companies that elect to estimate forfeitures should record the dividend payable and corresponding charge to retained earnings based on the company’s estimate of the awards expected to vest. This estimate should be adjusted when the forfeiture rate assumption is adjusted and trued up for actual forfeitures.

2.9.4 EPS considerations for stock awards with dividend rights

Unvested awards that contain nonforfeitable rights to dividends are considered participating securities for purposes of computing earnings per share. Refer to FSP 7.4.2.5 for further discussion.
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