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This section provides an overview of the accounting for share-based payments to nonemployees subsequent to adoption of ASU 2018-07 (which amended ASC 718 to also apply to most aspects of awards issued to nonemployees). We also address the areas where nonemployee accounting continues to differ from employee share-based payment accounting.
ASU 2018-07 is effective for public business entities for fiscal years beginning after December 15, 2018, including interim periods within that fiscal year. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Early adoption is permitted, but no earlier than an entity’s adoption of ASC 606. Transition guidance is provided in ASC 718-10-65-11 through ASC 718-10-65-14.
SC 7.2.6 and SC 7.2.7 address the accounting for share-based payments granted to customers upon adoption of ASU 2019-08. ASU 2019-08 is effective for public business entities, and all other entities that have early adopted the nonemployee guidance in ASU 2018-07, for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. For all other entities that have not adopted ASU 2018-07, the guidance in ASU 2019-08 is effective for fiscal years beginning after December 15, 2019, and for interim periods within fiscal years beginning after December 15, 2020.
Early adoption, including in interim periods, is permitted in financial statements that have not yet been issued/made available for issuance, but no earlier than the adoption of the nonemployee guidance in ASU 2018-07.
An entity that adopts ASU 2019-08 in the same fiscal year as the nonemployee guidance in ASU 2018-07 should apply the guidance in ASU 2019-08 retrospectively to all prior interim periods in that fiscal year for which the nonemployee guidance was previously applied. As described in ASC 718-10-65-15, a cumulative-effect adjustment to retained earnings should be recorded as of the beginning of the fiscal year of adoption, following the same provisions as in the nonemployee guidance about which arrangements are subject to the guidance.
An entity that adopts ASU 2019-08 in a later fiscal year than the nonemployee guidance can either:
  • Apply ASU 2019-08 retrospectively to all prior periods in which the nonemployee guidance has been previously applied, with a cumulative-effect adjustment to retained earnings as of the beginning of that year, or
  • Apply the guidance on a modified retrospective basis through a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year in which ASU 2019-08 is adopted.

7.2.1 Overview of ASC 718 as amended by ASU 2018-07

Entities will generally apply the same guidance to both employee and nonemployee share-based awards. However, entities must follow specific guidance for share-based awards to nonemployees related to the attribution of compensation cost and the inputs to the option-pricing model for expected term.

7.2.2 Scope of guidance — stock transactions with nonemployees

The FASB limited the scope of ASC 718 to instruments granted for goods or services to be used or consumed in a grantor's own operations; it does not apply to instruments issued to provide financing to the issuer. This was done to address potential structuring concerns. For example, transactions that otherwise would be accounted for under ASC 815 as a derivative (such as the issuance of an equity-linked instrument to purchase gold, when the entity does not use the gold in its operations) cannot be treated as nonemployee awards to purchase products under ASC 718. In this particular example, the FASB was concerned that an entity could issue such an instrument to purchase a commodity (i.e., gold), which could then be sold for cash, effectively resulting in the issuance of an equity-linked instrument for cash financing.

7.2.3 Measurement of nonemployee awards

Nonemployee share-based payment equity awards are measured at the grant-date fair value of the equity instruments, similar to employee share-based payment equity awards.
However, in determining the grant-date fair value of options and similar instruments, an entity may elect to use the contractual term as the expected term in the option-pricing model for its nonemployee awards. This is because it may be more difficult or even impossible for an entity to determine the expected term for nonemployee options. The election is available on an award-by-award basis. An entity may still estimate the expected term as is required for employee awards. An entity should consider whether it has relevant history for comparable nonemployee awards, which may differ than the entity's historical experience for employee awards, and if the terms of the awards are similar.
In addition, a nonpublic entity may also choose to apply a practical expedient in determining the expected term of nonemployee awards, similar to that available for employee awards, as described in SC 6.2.4. However, the practical expedient is a policy election and, if elected, must be applied to all employee and nonemployee awards that meet the following conditions:
  • The award is granted at the money,
  • The grantee has only a limited time to exercise the award (typically 30–90 days) if the grantee no longer provides goods or terminates service after vesting,
  • The grantee can only exercise the award (i.e., cannot sell or hedge the award), and
  • The award does not include a market condition.
Certain of these conditions may be less likely to be met for certain types of nonemployee awards and should be carefully evaluated, such as whether hedging is allowed or if the time to exercise the award is truncated when service or the supply agreement is terminated. Notwithstanding the policy election chosen, a nonpublic entity may still elect, on an award-by-award basis, to use the contractual term as the expected term for nonemployee awards, as indicated above.
ASU 2019-08 clarifies that the practical expedient available for nonpublic entities to estimate the expected term when valuing share options or similar awards is available for awards granted to customers. The same conditions described above must be met to apply this practical expedient to awards issued to customers. In our experience, share-based awards issued to customers do not typically include a term truncation feature when the counterparty ceases to be a customer. Therefore, while this practical expedient is technically allowed for share-based awards issued to customers, we believe its use will be limited. If the practical expedient cannot be utilized, entities may elect to use the contractual term as the expected term for purposes of measuring the fair value of the award.
Figure SC 7-1 describes the practical expedient for estimating expected term for nonpublic entities.
Figure SC 7-1
Practical expedient for estimating expected term for nonpublic entities
Type of provision
Employee awards
Nonemployee awards
Service condition only
The midpoint between the end of the requisite service period and the contractual term of the award
The midpoint between the end of the vesting period and the contractual term of the award
Performance condition probable of being achieved
The midpoint between the end of the requisite service period and the contractual term
The midpoint between the end of the vesting period and the contractual term
Performance condition not probable of being achieved
If the service period is implied:
  • The contractual term

If the service period is explicit:
  • The midpoint between the end of the requisite service period and the contractual term
If the service period is implied:
  • The contractual term

If the service period is explicit:
  • The midpoint between the end of the vesting period and the contractual term
The figure reflects that despite the slight differences in the definition of the service period between employee and nonemployee awards ("requisite service period" vs. "vesting period"), the guidance is effectively the same.
If a nonpublic entity has an accounting policy to measure its liability-classified employee share-based payment awards at intrinsic value, the entity must be consistent and also measure its nonemployee liability-classified awards at intrinsic value instead of fair value (except those determined to be consideration payable to a customer, as described in SC 7.2.7.2), and vice versa. If a nonpublic entity does not already have an accounting policy, then upon adoption of ASU 2018-07, it can make a one-time election to measure nonemployee liability-classified awards at intrinsic value instead of fair value. Additionally, nonpublic entities will be able to value nonemployee awards using an industry sector volatility index (referred to as a “calculated value”) if determination of expected volatility of the entity’s stock is not practicable, consistent with the guidance for employee share-based payment awards.

7.2.4 Performance conditions — nonemployee awards

The definition of performance condition in ASC 718 after adoption of ASU 2018-07 is consistent for employee and nonemployee awards. The accounting for these awards granted to nonemployees requires using the probability-based recognition approach, consistent with accounting for employee awards. Refer to SC 2.5.3 for discussion of the accounting model for awards with performance conditions.
The definition of "performance condition" was clarified by ASU 2018-07 to specifically state that if the performance condition is in reference to the counterparty's performance, it must be “related to the grantor's own operations (or activities)" as well as "in accordance with the terms of the award." We believe that the intent is to ensure that for nonemployee awards, the performance target measures the impact on the results of the grantor of the goods or services provided by the counterparty in exchange for the awards. The definition would exclude an award, for example, in which the performance target was based on the counterparty’s results. Additionally, delivery of goods or services themselves are not considered “performance conditions” under ASC 718;  rather, they are considered “service conditions.” Performance conditions are limited to a further outcome beyond just delivery, such as the growth in the issuer’s revenue as a result of marketing services provided by the counterparty.

7.2.5 Attribution of compensation cost for nonemployee awards

Compensation cost for nonemployee awards is recognized in the same period(s) and in the same manner as if the grantor had paid cash in exchange for the goods or services instead of a share-based award. This reflects the variety of provisions imposed on nonemployee counterparties in exchange for the awards, beyond the typical employee services that are provided over time. In many cases, attribution of compensation cost will be the same as for employee awards. For example, an award granted to a nonemployee that is earned after 2 years of service as a nonemployee consultant to the entity generally would be recognized over that 2-year period. However, there may be situations in which the cost attribution will differ if granted to a nonemployee. For example, if the awards are issued as payment for goods, the cost may be attributed based on the pattern of delivery of the goods.
The existing policy election of a graded or straight-line basis for attribution of service condition-only awards with graded vesting only applies to employee awards (see SC 2.8). There is no similar election for nonemployee awards. As described above, the attribution for nonemployee awards is in the same manner as if the grantor had paid cash for the goods or services. Therefore, we would anticipate that entities that had issued nonemployee awards with graded vesting prior to the adoption of ASU 2018-07 should continue to follow the attribution method they had in place previously. Entities that issue nonemployee awards with graded vesting for the first time after adoption of ASU 2018-07 should apply appropriate judgment in determining the attribution of the cost of such awards.

7.2.6 Awards granted to customers

ASU 2018-07 amends ASC 606, Revenue from contracts with customers, to clarify that consideration payable to a customer also includes equity instruments (for example, shares, share options, or other equity instruments). The accounting for the equity instrument (including measurement, classification, recognition, and disclosure) depends on whether the equity instrument is payment in exchange for a distinct good or service. Payments to customers in the form of an entity’s own equity instruments in exchange for a distinct good or service at an amount that does not exceed the fair value of the good or service are accounted for in accordance with ASC 718, similar to other share-based payments to nonemployees.
Consideration paid to a customer in the form of equity instruments that is not in exchange for a distinct good or service is addressed in ASU 2019-08. ASU 2019-08 clarifies that the measurement and classification of share-based payment awards issued to a customer follows the guidance in ASC 718 for both equity and liability-classified awards. The value determined at the grant date is reflected as a reduction of the transaction price (and therefore revenue) following the guidance in ASC 606.
As discussed in SC 7.2.5, the guidance for nonemployee share-based payment awards does not specify when and how to recognize the value of an award, other than to require that an asset or expense (or, in this case, a reduction of revenue) be recognized in the same period and in the same manner as if the grantor had paid cash for the goods or services. In accordance with ASC 606-10-32-27, consideration payable to a customer should be recognized at the later of when the award is promised and when the entity recognizes revenue for the transfer of the related goods or services. Therefore, for example, if a share-based payment award issued to a customer vests based on the customer purchasing a specified number or dollar value of units, the grant-date fair value of the award should be recognized in proportion to the delivery of the units, which is similar to the accounting for a cash rebate payable upon the customer achieving a cumulative sales target. See RR 4.6 for further detail.
Example SC 7-1 illustrates the accounting treatment for stock-based compensation granted to a customer.
EXAMPLE SC 7-1
Accounting by a vendor for stock-based compensation granted to a customer
On January 1, 20X1 Customer agrees to purchase from SC Corporation one widget for $2,000 and SC Corporation agrees to grant Customer 500 fully vested shares. All of the criteria to establish a grant date under ASC 718 are met on January 1, 20X1, and the award is classified as an equity instrument under ASC 718. SC Corporation does not receive any distinct goods or services from Customer as consideration for the shares. SC Corporation’s share value is $1.00 on January 1, 20X1. SC Corporation transfers control of the widget to Customer on April 10, 20X1. At that time, SC Corporation’s share value is $1.50.
How should SC Corporation account for the stock-based compensation granted to its customer?
Analysis
SC Corporation should follow the guidance in ASC 606 for determining the appropriate recognition of the award. The awards are not a payment for a distinct good or service received from the customer; therefore, these awards should be considered a reduction of the transaction price (and therefore revenue). SC Corporation should follow the guidance in ASC 718 to determine the measurement date and classification for share-based payment awards granted to Customer. Therefore, these equity-classified awards should be measured at fair value at the grant date, which is January 1, 20X1.
Jan 1 20X1
Revenue from widgets
$ 2,000
Less: Sales incentive
500
Net revenue
$ 1,500
This net revenue should be recognized on April 10, 20X1 when control of the widget is transferred to Customer.

7.2.7 Subsequent measurement of awards granted to customers

ASU 2019-08 clarifies that only the grant-date fair value of share-based payment awards should be reflected as a reduction in revenue. If the number of equity instruments or their terms can vary based on achieving a service or performance condition, changes in the expected outcome of those conditions are reflected in revenue based on the grant-date fair value of those outcomes (see SC 7.2.7.1). Conversely, any changes in measurement of the share-based awards after the grant date due to the form of consideration (e.g., a change in the fair value of a liability-classified award) should not be recognized in revenue, but rather should be recognized elsewhere in the income statement consistent with the guidance for noncash consideration in ASC 606-10-32-23 (see SC 7.2.7.2).

7.2.7.1 Vesting conditions of awards granted to customers

An award with a service or performance condition may have multiple potential outcomes that affect the quantity or terms of the award. ASU 2018-07 updated the definition of a service condition to include a nonemployee delivering goods or rendering services to the grantor over a vesting period, which would incorporate a vesting condition based upon a customer purchasing a certain quantity or dollar value of goods or services from the grantor. The definition of a performance condition includes achieving a target defined solely by reference to the grantor’s own operations (or activities) or the grantee’s performance related to the grantor’s own operations (or activities), such as an award that only becomes exercisable upon an IPO of the grantor.
If the number of equity instruments or their terms could change due to a service condition, the entity should follow its existing accounting policy under ASC 718-10-35-1D for forfeitures of awards issued to nonemployees (see SC 7.2.10). If the entity’s policy is to recognize the effects of forfeitures of nonemployee awards only when they occur, the same approach should be applied to awards issued to customers. In that situation, the transaction price would be reduced for the grant-date fair value of the full number of equity instruments that could be issued to the customer. If the customer fails to meet the criteria necessary to earn the award, an adjustment to the transaction price would be made at the time the award is forfeited to reverse the effects of the forfeited award based on the grant-date fair value.
If the entity’s policy is to estimate the number of forfeitures expected to occur for awards issued to nonemployees with service conditions, or if the number of equity instruments or their terms could change due to a performance condition, the entity should estimate the number of equity instruments that it will be obligated to issue to the customer each period. Changes in the value of an award when a different service or performance outcome becomes probable would be recognized as a change to the transaction price (as it is not a change in value based on the form of consideration) based on the grant-date fair value of that new outcome. This estimate would be updated until the award ultimately vests (or fails to vest).
This is similar to the accounting for share-based payment awards with service or performance conditions issued to nonemployees for goods or services, other than the classification of the charge against revenue. It would not be subject to the guidance on measuring variable consideration in ASC 606-10-32-5 through ASC 606-10-32-14.
Market conditions are incorporated into the grant-date fair value of the awards and this amount is recognized whether or not the market condition is ultimately achieved. This is consistent with the treatment of awards with market conditions issued to employees or nonemployees for goods or services.
Example SC 7-2 illustrates the accounting for an equity-classified award with a vesting condition issued as a sales incentive to a customer.
EXAMPLE SC 7-2
Equity-classified award with a service vesting condition issued as a sales incentive to a customer when the probability of vesting changes
On January 1, 20X1, Widgetmaker executes a Master Supply Agreement (MSA) with Customer to deliver widgets with certain specifications. Customer has no minimum purchase requirement. The MSA has a one-year term. Customer agrees to pay Widgetmaker $1,000 for each widget it orders.
As a sales incentive, Widgetmaker includes terms within the MSA to grant Customer 1,500 fully vested shares of Widgetmaker if Customer purchases three widgets during 20X1 and remains a customer for the year. All of the criteria to establish a grant date under ASC 718 are met on January 1, 20X1, and the award is classified as an equity instrument under ASC 718. Widgetmaker’s accounting policy is to estimate forfeitures for share-based awards issued to nonemployees.
Upon grant, Widgetmaker believes it is probable that Customer will purchase three widgets in 20X1. At June 30, due to a downturn in Customer’s business, Widgetmaker believes it is probable that only 2 widgets will be purchased during the year. However, conditions improve in the following quarter and at September 30, Widgetmaker again believes Customer will purchase three widgets, and ultimately three widgets are purchased during the year and the shares are earned.
Widgetmaker ’s stock is valued at $1.00 per share on January 1. Widgetmaker’s stock value changed during 20X1 as follows:
Date
Share value
Jan 1
$ 1.00
Mar 31
$ 1.05
Jun 30
$ 1.50
Sept 30
$ 1.00
Dec 31
$ 2.00
During 20X1, Customer issues purchase orders, each for one widget, on March 2, 20X1, June 1, 20X1, and December 31, 20X1. The widgets are delivered (and control transfers) to Customer on the same day as each order.
How should Widgetmaker account for awards issued as a sales incentive to its customer when the probability of vesting changes?
Analysis
Widgetmaker should look to the guidance in ASC 718 to determine the measurement date for share-based payment awards granted to Customer. Widgetmaker would measure the fair value of the equity-classified instruments granted to Customer at the grant date (i.e., January 1, 20X1, when they are worth $1.00 per instrument), which is when the parties reached a mutual understanding of the key terms and conditions of the award. While the ultimate value of the award can change based on Customer’s actions in this case, changes due to revisions in the expected outcome of a service or performance condition are not deemed to be changes due to the form of the consideration and, therefore, should be reflected in the transaction price.
ASC 718 provides guidance for when to recognize nonemployee share-based payments. Nonemployee awards should be recognized in the same period and manner as if the grantor had paid cash instead of issuing a share-based award.
Consistent with the guidance in ASC 606-10-32-27, assuming that revenue is recognized at a point in time for the sale of widgets, Widgetmaker should recognize the grant-date fair value of the awards ($1,500 in total: 1,500 shares x $1.00/share) as a reduction of revenue as control of the widgets is transferred to Customer, if the vesting condition is considered probable of achievement. In this example, since the $1,500 value of the equity awards is specifically associated with the delivery of three widgets, it would be appropriate to ascribe $500 of that value to each widget delivered. If revenue was recognized over time (such as for services provided continuously over the period), then the grant-date fair value of the awards would be recognized as a reduction of revenue over time.
Widgetmaker’s accounting is summarized as follows:
Date
Cumulative revenue recognized
Probability assessment of Customer earning award
Cumulative amount recorded as a reduction of revenue
Jan 1
no accounting
Mar 31
$1,000 (1 widget)
Yes
$1,500 × 1/3 = $500
Jun 30
$2,000 (2 widgets)
No, only 2 widgets anticipated
$01
Sept 30
$2,000 (2 widgets)
Yes
$1,500 × 2/3 = $1,0002
Dec 31
$3,000 (3 widgets)
Yes
$1,500
1As vesting of the award is no longer considered probable at June 30, Widgetmaker’s best estimate is that it will not issue any shares to Customer. Therefore, the amount recognized as a reduction of revenue in the March 31 quarter ($500) for the share-based payment award should be reversed in the June 30 quarter. This results in a net increase in revenue for the quarter.
2As vesting of the award is again considered probable at September 30, Widgetmaker’s best estimate is that it will issue the 1,500 shares to Customer. As two of the three required widgets have been purchased as of September 30, two-thirds of the original grant date fair value of $1,500 should be recognized as a cumulative reduction of revenue at that date. Therefore, $1,000 would be recognized as a reduction of cumulative revenue to Customer in the September 30 quarter for the share-based payment award, even though no sales revenue to Customer was recognized in the quarter.

7.2.7.2 Liability-classified awards granted to customers

ASU 2019-08 clarifies that changes to the fair value of a share-based award issued to a customer after the grant date due to the form of consideration (i.e., market value changes) would not be recognized as part of the transaction price. This is consistent with the guidance for noncash consideration in ASC 606-10-32-23. For example, if the award is classified as a liability and is being marked-to-market each period, only the fair value determined as of the grant date would be recorded as a reduction of revenue. Subsequent changes to the instrument’s fair value each period would be reflected elsewhere in the income statement. This may follow, for example, the entity’s treatment of gains and losses on derivative financial instruments under ASC 815, although the guidance does not prescribe a treatment.
ASU 2019-08 requires nonpublic entities to measure both equity-classified and liability-classified awards that are determined to be consideration payable to a customer at fair value. Furthermore, any subsequent measurement of liability-classified awards issued to customers must also be measured at fair value. This is required even for nonpublic entities that have elected a policy to measure their liability-classified awards issued in exchange for goods or services at intrinsic value.
Example SC 7-3 illustrates the accounting for a liability-classified share-based payment award issued as a sales incentive to a customer.
EXAMPLE SC 7-3
Liability-classified award issued as a sales incentive to a customer
On January 1, 20X1, Widgetmaker executes a Master Supply Agreement (MSA) with Customer to deliver widgets with certain specifications. Customer has no minimum purchase requirement. The MSA has a one-year term. Customer agrees to pay Widgetmaker $1,000 for each widget it orders.
As a sales incentive, Widgetmaker includes terms within the MSA to grant Customer 1,500 fully vested cash-settled stock appreciation rights (SARs) of Widgetmaker if Customer purchases three widgets during 20X1. All of the criteria to establish a grant date under ASC 718 are met on January 1, 20X1, and the award is classified as a liability instrument under ASC 718. Widgetmaker’s accounting policy is to estimate forfeitures for share-based awards issued to nonemployees. Throughout the year, Widgetmaker believes that it is probable that Customer will purchase the three widgets, and Customer ultimately does so.
The fair value of a SAR measured on January 1 is $1.00. The fair value of each SAR changed during 20X1 as follows:
Date
Fair value
Jan 1
$ 1.00
Mar 31
$ 1.05
Jun 30
$ 1.50
Sept 30
$ 1.00
Dec 31
$ 2.00
During 20X1, Customer issues purchase orders, each for one widget, on March 2, 20X1, June 1, 20X1, and December 31, 20X1. The widgets are delivered (and control transfers) to Customer on the same day as each order.
How should Widgetmaker account for liability-classified awards issued as a sales incentive to its customer?
Analysis
Widgetmaker should look to the guidance in ASC 718 to determine the measurement date for share-based payment awards granted to Customer. Widgetmaker would measure the fair value of the liability-classified instruments granted to Customer at the grant date (i.e., January 1, 20X1, when they are worth $1.00 per instrument), which is when the parties reached a mutual understanding of the key terms and conditions of the award, to determine the amount that should be reflected as a reduction in the transaction price of the revenue contract. Changes in the measurement of the share-based payment award after the grant date that are due to the form of the consideration (i.e., due to the classification of the award as a liability) are reflected elsewhere in the income statement and not as an adjustment to revenue.
ASC 718 provides guidance for when to recognize nonemployee share-based payments. Nonemployee awards should be recognized in the same period and manner as if the grantor had paid cash instead of issuing a share-based award.
Consistent with the guidance in ASC 606-10-32-27, assuming that revenue is recognized at a point in time for the sale of widgets, Widgetmaker should recognize the grant-date fair value of the awards ($1,500 in total: 1,500 SAR’s x $1.00/SAR) as a reduction of revenue as control of the widgets is transferred to Customer, if the vesting condition is considered probable of achievement. In this example, since the $1,500 value of the share-based awards is specifically associated with the delivery of three widgets, it would be appropriate to ascribe $500 of that value to each widget delivered. If revenue was recognized over time (such as for services provided continuously over the period), then the grant-date fair value of the awards would be recognized as a reduction of revenue over time. Even though the fair value of the liability-classified awards must be remeasured each period, there is no change in the amount charged against revenue. The impact of the mark-to-market accounting for the awards issued to Customer is recorded on another line in Widgetmaker’s income statement.
Similar to the accounting for liability awards issued to nonemployees to acquire goods or services, the liability as of each reporting period should reflect the percentage of the aggregate current fair value of the share-based payment award that would have been recognized had the entity paid cash instead of issuing the award. In this example, one-third of the total value of the award is associated with each widget. Therefore, based on how many widgets have been delivered to Customer at each reporting date, Widgetmaker would record a liability equal to the proportionate amount of the aggregate then-current fair value of the entire 1,500 SAR’s. The difference between this amount and the proportion of the grant-date fair value recorded against revenue is the amount to record elsewhere in Widgetmaker’s income statement.
Widgetmaker’s accounting is summarized as follows:
Date
SAR value
Mark-to-market liability
Recorded as reduction of revenue at grant date fair value as each widget is delivered
Cumulative amount recorded as a reduction of revenue
Cumulative amount recorded outside of revenue
Amount recorded outside of revenue in the quarter
1/1
$ 1.00
no accounting
3/31
$ 1.05
$525 (1,500×$1.05*1/3)
$500
$500
(1 widget delivered)
$25
$25
6/30
$ 1.50
$1,500 (1,500×$1.50*2/3)
$500
$1,000       
(2 widgets delivered)
$500
$475
9/30
$ 1.00
$1,000 (1,500×$1.00*2/3)
$1,000        
(2 widgets delivered) 
$0
$(500)
12/31
$ 2.00
$3,000 (1,500×$2.00*3/3)
$500
$1,500        
(3 widgets delivered) 
$1,500
$1,500

7.2.7.3 Modifications and settlements of awards to customers

ASC 718 provides guidance on modifications and settlements of awards issued in exchange for goods or services, focusing on incremental value provided to the counterparty (see SC 4.2 and SC 4.8). ASU 2019-08 does not explicitly address modifications and settlements of awards issued to a customer, other than in the context of potentially transitioning to other guidance. Consistent with the overall approach in ASU 2019-08 to measure and classify share-based payment awards issued to customers under ASC 718 and then account for the resulting amounts under ASC 606, we believe the guidance in ASC 718 should be used to measure the impact of a modification or settlement of a share-based payment award issued to a customer. That is, companies should compare the fair value of the award immediately before and immediately after the modification or settlement to determine if the change creates any incremental value to the holder. Any incremental value would then be considered a further payment to the customer under ASC 606.
The recognition of the incremental value will depend on the facts and circumstances and what aspect of the revenue contract modification model is applicable under ASC 606. For example, the incremental value of the share-based award may simply be accounted for as an immediate additional charge to revenue if the associated goods and services have already been fully delivered and the modification is not associated with the execution of a new contract. However, if the goods and services are still being delivered, the incremental payment to the customer may be viewed as a contract modification subject to the guidance in ASC 606-10-25-10 to ASC 606-10-25-13. Based on that guidance, for example, the incremental value associated with the share-based payment award (a change in the transaction price) may lead to accounting for the transaction as the cancellation of the existing contract and the creation of a new contract. See further discussion of revenue contract modifications in RR 2.9.

7.2.7.4 Awards to customers becoming subject to other guidance

ASU 2019-08 clarifies that a share-based award issued to a grantee will continue to be accounted for under the share-based payment guidance in ASC 718 throughout the life of the award, unless its terms are modified after a grantee:
  • vests in the award and is no longer providing goods or services,
  • vests in the award and is no longer a customer, or
  • is no longer an employee.
If the terms are modified after one of these situations (other than in certain qualifying equity restructuring transactions), the modification is accounted for under the share-based payment guidance, but after the modification, the recognition and measurement of the instrument is subject to other applicable GAAP (see SC 4.10). For example, if a stock option issued to a customer is modified after the counterparty ceases to be a customer, the modification would first be subject to the guidance in ASC 718, and then immediately after the modification, the stock option would be subject to the classification and measurement guidance in ASC 815, Derivatives and Hedging. ASU 2019-08 does not specify when a counterparty ceases to be a “customer.” For example, it is unclear how to consider a counterparty that has fulfilled its existing contract but is in negotiations for a potential new contract. Appropriate judgment should be applied based on the facts and circumstances.

7.2.7.5  Goods/services given to customers before the grant date

ASU 2019-08 clarifies that equity instruments granted by an entity in conjunction with selling goods or services should be measured and classified at the grant date, as that date is defined in ASC 718. However, there may be circumstances when goods or services are delivered to a customer before the grant date of an associated share-based award; for example, if the terms and conditions of the award have not yet been finalized at the time goods or services begin to be delivered, or if the exercise price of an option will be set based on a future stock price. In such a circumstance, the award should be measured at its fair value as of the reporting dates that occur before the grant date, and that amount should be reflected in the determination of the transaction price each period in accordance with the guidance on variable consideration in ASC 606-10-32-7 and ASC 606-10-32-27. That amount should be updated (on a cumulative effect basis) each subsequent reporting period until the grant date occurs. Once the grant date occurs, the entity should adjust the transaction price for the cumulative effect of measuring the fair value at the grant date rather than the fair value previously used.

7.2.8 Awards to employees/nonemployees of equity method investees

ASC 323-10-25-3 through ASC 323-10-25-6 requires that, for transactions in which stock-based compensation is incurred by an investor on behalf of an equity method investee, the investee should apply the guidance in ASC 718 to measure compensation expense incurred by the investor on its behalf and record a corresponding capital contribution. The investor should recognize an expense for the portion of the costs incurred that benefits other investors and recognize the remaining cost as an increase to its equity investment in the same period compensation expense is recognized on the books of the investee.
The investor shall recognize the full cost of the awards as incurred (that is, in the same period the costs are recognized by the investee) for share-based payment awards granted to employees or nonemployees of an equity method investee (that provide goods or services to the investee that are used or consumed in the investee’s operations). This is assuming no proportionate funding by the other investors occurs and the investor does not receive any increase in the investor’s relative ownership percentage of the investee. Therefore, awards to nonemployees of an equity method investee will be measured at the grant date fair value and recognized as if cash had been paid for the goods or services.
Other non-contributing investors should recognize income equal to the amount that their interest in the investee’s net book value has increased. In ASC 323-10-S99-4 the SEC Observer indicated that SEC registrant investors should classify any expense or income resulting from the application of this guidance in the same income statement caption as the equity in earnings (or losses) of the investee.
ASC 323-10-25 does not apply to situations in which proportionate funding exists. In these cases, both investors are contributing stock-based awards (or other consideration) of proportionate value. Because of the proportional contributions, a cash contribution to the investee would be an equity investment to the investor. Similarly, ASC 323-10-25 does not apply to arrangements established at the time of the investor’s original investment in the investee. When the compensation expense is recorded on the investee’s books, the investor would record a portion of the expense in relation to the equity investment.
We understand, based on discussions with the FASB staff, that this guidance is limited to grants of investor share-based payment awards to employees and nonemployee service providers of equity method investees. This does not extend to awards issued to employees and nonemployee service providers of entities under common control. Refer to SC 1.6 for further details.

7.2.9 Awards in the form of convertible instruments

Entities occasionally issue convertible instruments (such as debt or preferred stock that is convertible into common stock of the entity) to nonemployees in exchange for goods or services. The fair value of the instrument at the grant date will be used to measure compensation cost.
ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40), eliminates the beneficial conversion and cash conversion accounting models for convertible instruments. See FG 6.7.
ASU 2020-06 is effective for public business entities that meet the definition of an SEC filer, excluding entities eligible to be smaller reporting companies as defined by the SEC, for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted, but no earlier than fiscal years beginning after December 15, 2020, including interim periods within those fiscal years. The ASU must be adopted as of the beginning of an entity’s fiscal year and may not be adopted in an interim period.

7.2.9.1 Convertible instruments, after adoption of ASU 2020-06

The grant-date fair value of convertible instruments (such as debt or preferred stock that is convertible into common stock of the entity) issued to nonemployees in exchange for goods or services will be used to measure compensation cost. These share-based payment awards in the form of convertible instruments will remain subject to the recognition and measurement guidance of ASC 718 throughout the life of the instrument (and will not be reassessed under other applicable GAAP, such as ASC 815, Derivatives and hedging, or ASC 470-20, Debt – Debt with conversion and other options), unless the terms of the award are modified after the grantee vests in the award and is no longer providing goods or services (or is no longer an employee or customer).

7.2.9.1A Convertible instruments, prior to adoption of ASU 2020-06

The fair value of convertible instruments (such as debt or preferred stock that is convertible into common stock of the entity) issued to nonemployees in exchange for goods or services will be used to measure compensation cost and to determine if there is an initial beneficial conversion feature to record as of the grant date. Additionally, the fair value of the convertible instrument and the related intrinsic value of the conversion option (using the fair value of the underlying common stock) is required to be remeasured at the date the award becomes fully vested for purposes of determining if a beneficial conversion feature exists at that date. See FG 6.7 for further information on beneficial conversion features.
The post-vesting treatment of employee and nonemployee awards is consistent and generally does not require assessing the instruments issued to nonemployees under other applicable literature once performance is complete. However, an award that is convertible into equity instruments of the grantor follows the recognition and measurement requirements of other applicable literature upon vesting (including ASC 470-20, Debt - Debt with conversion and other options).

7.2.10 Forfeiture policy election

Existing guidance in ASC 718 allows an entity to establish an accounting policy for employee awards to either estimate forfeitures or account for them when they occur. See SC 2.7 for further discussion on the accounting policy for forfeitures. An entity must also establish a forfeiture policy for nonemployee awards. The policy for nonemployee awards can be the same or different as the policy for employee awards; however, these policies must be applied consistently to their respective types of awards.
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