On Oct. 25, 2021, the FASB issued ASU 2021-07, “Compensation – Stock Compensation (Topic 718): Determining the Current Price of an Underlying Share for Equity-Classified Share-Based Awards (a Consensus of the Private Company Council),” in response to feedback from private company stakeholders indicating that determining the fair value of private company share-based awards within the scope of Topic 718, namely, the current price input, is often costly and complex. Thus, the Private Company Council reached a consensus to provide a practical expedient for private companies for all equity-classified share-based awards within the scope of Topic 718, to lower the cost and complexity of applying measurement guidance.
The ASU simplifies the application of Topic 718 by allowing nonpublic entities the option of applying a practical expedient to determine the current price input of equity-classified share-based awards. The practical expedient uses the same characteristics as those in Treasury regulations related to Section 409A of the U.S. Internal Revenue Code (Section 409A). Therefore, a valuation performed in accordance with Section 409A is an example of a way to achieve the practical expedient prescribed in this ASU. This allows nonpublic entities to obtain a single valuation to satisfy both the book and tax requirements.
The main provisions of this ASU include the following:
Scope of the practical expedient
The practical expedient can be adopted by nonpublic entities and applied to their equity-classified share-based awards that are within the scope of Topic 718.
The practical expedient may not be used for awards classified as liabilities in accordance with Topic 718.
The practical expedient
The practical expedient, if elected, allows nonpublic entities to determine the current price input for their equity-classified share-based awards using the reasonable application of a reasonable valuation method.
Reasonable application of a reasonable valuation method
The reasonable application of a reasonable valuation method includes the following characteristics:
Methods presumed to result in a reasonable valuation
Any of the following three methods is presumed to result in a reasonable valuation under Section 409A, provided the detailed requirements for use of each method are satisfied:
Methods that satisfy the practical expedient criteria
It is expected that an independent appraisal (as per method number one under Section 409A) will often be the method used by nonpublic entities electing the practical expedient in this ASU because of the presumption of reasonableness associated with that method for tax purposes, as well as the requirements associated with and limiting availability of other methods that achieve the presumption of reasonableness.
Other valuations, including internal valuations, can also have the characteristics described in the practical expedient.
Per Accounting Standards Codification (ASC) 718-10-50-2(f)(2)(vi), a nonpublic entity that elects to apply the practical expedient shall disclose that election.
Benefits of the ASU
Currently, some nonpublic entities may obtain separate external valuations to satisfy the requirements of both Topic 718 and Section 409A. The practical expedient in this ASU allows these entities to use a Section 409A valuation to satisfy both requirements.
In addition, some nonpublic entities may issue multiple grants within a 12-month period. The practical expedient in this ASU allows such entities to consider using one Section 409A appraisal, provided there are no material changes to the business.
The amendments in this ASU are effective as follows:
Fiscal years beginning after Dec. 15, 2021, and interim periods within fiscal years beginning after Dec. 15, 2022
Nonpublic entities are allowed to apply the practical expedient in this ASU prospectively, on a measurement-date-by-measurement-date basis, for all equity-classified share-based awards granted or modified after the effective date. The practical expedient must be applied to all share-based awards within the scope of the practical expedient having the same underlying share and the same measurement date.
Early adoption is permitted for both interim and annual financial statements that have not yet been issued or made available for issuance as of Oct. 25, 2021.
While the practical expedient can lower the cost and complexity for nonpublic entities of applying valuation guidance to equity-classified share-based awards within the scope of Topic 718, the following key consideration is noted:
Word of caution
The practical expedient provided by this ASU is for nonpublic entities. If, after application of the practical expedient, a nonpublic entity becomes a public business entity, the effects of the practical expedient likely will need to be unwound to comply with guidance applicable for public business entities.