1. What is stock compensation/stock-based compensation (SBC)?
Answer: Stock compensation is a form of payment where employees receive shares of the company's stock as part of their compensation package. This method aligns the interests of the employees with those of the company and its shareholders, as the value of the compensation is tied to the company's stock performance. Vendors and consultants (non-employees) may also be issued share-based payments.
2. What are the different types of grants that would elicit stock compensation?
Answer: The most common types are stock options, restricted stock units
(RSUs), and restricted stock awards (RSAs). Stock options give employees the
right to buy company stock at a predetermined price. RSUs and RSAs are
company shares given to an employee which vest over time.
3. How does stock compensation affect company financials?
Answer: Stock compensation is considered an expense for the company and
must be reported in the financial statements. The expense is generally
recognized over the vesting period of the stock awards. Financial Accounting
Standards Board (FASB) Accounting Standards Codification (ASC) 718,
Compensation — Stock Compensation is the guidance that companies must
follow to be in accordance with US Generally Accepted Accounting Principles
Under ASC 718, the primary accounting treatment of stock options requires
recognizing compensation cost for all share-based payments granted to
employees and non-employees. This cost is measured as the fair value of the
equity instruments issued, which is typically determined at the grant date using
an option pricing model like Black-Scholes. The total amount to be expensed is
determined by the grant-date fair value and is generally recognized over the
vesting period of the stock options. Companies must also disclose the nature and
terms of such arrangements, how the fair value of share-based payment awards
is determined, and the effect of share-based payment transactions on the income
statement. This approach ensures that the cost of stock options is reported in a
way that reflects their economic value and the cost of employee services.
4. What happens to stock compensation if an employee leaves the company?
Answer: This depends on the company's stock compensation plan. Generally, unvested incentive awards are forfeited if an employee leaves and the stock compensation stops being recognized as of the termination date.
5. When does my business need to start recording stock based compensation in their financials?
Answer: Companies need to account for stock compensation when they grant
stock options, RSUs, or other equity-based compensation to their employees.
According to the Financial Accounting Standards Board (FASB) Accounting
Standards Codification (ASC) 718, Compensation — Stock Compensation,
companies must measure the cost of employee services received in exchange
for an award of equity instruments based on the grant-date fair value of the
award. This cost is recognized over the period during which an employee is
required to provide service in exchange for the award, typically the vesting
However, some private companies may choose to wait to record the expense
until they need to get their first audit or have some other covenant requiring them
to maintain their books and records in accordance with US Generally Accepted
Accounting Principles (GAAP). This generally happens around the time a
company is ready to raise a Series A or Series B.
6. How are stock options valued for accounting purposes?
Answer: There are several models for valuing stock options, including the
Black-Scholes Model, the Binomial Model, and Monte Carlo Simulation. The
Black-Scholes Model is widely used because of its simplicity and effectiveness in
situations where market data is limited. For private startup companies, which
often don't have a trading history or market price for their shares, the
Black-Scholes Model provides a reasonable and accepted method for estimating
the fair value of service-based incentive grants. It's particularly effective in
estimating the value of options for these companies because it relies on inputs
like expected term, volatility, risk-free rate, and dividend yield, which can be
estimated even when market data is scarce.
Pulley’s SBC Tool utilizes the Black Scholes Option Pricing model to calculate the
fair value of options.
7. How are RSUs and RSAs valued for accounting purposes?
Answer: ASC 718 requires all share-based payments to be estimated using a
fair-value based measurement. For nonpublic entities, Pulley’s SBC tool uses the
practical expedient under ASU 2021-07 and uses the 409A value as the current
price of the underlying share for purposes of determining the fair value of an
award that is classified as equity. As such, the fair value of an RSU or RSA is
estimated as being the value of one common share in the company as
determined by the 409A valuation in effect at the measurement date. For RSUs
or RSAs with terms different from the common stock valued using the 409A
approach, adjustments to the fair value estimate may be required (ex: awards
with market conditions, certain post-vesting restrictions).
8. How does Pulley’s SBC tool work?
Answer: Refer to our Methodology Guide for detailed answers to the accounting
treatment, elections utilized, and methodologies employed by Pulley’s SBC tool.
9. Does the tool support award repricings?
Answer: Pulley’s SBC tool does not yet support award repricings. If repricings
have occurred, please consult with your accountant and/or auditor for
adjustments that may need to be made.
10. Does Pulley’s SBC tool show the disclosure calculations for the footnotes in the financial statements?
Answer: Pulley’s SBC tool does not yet show the disclosure calculations for the footnotes in the financial statements. Please consult with your accountant and/or auditor for proper treatment.
11. Does the tool support award modifications?
Answer: Pulley’s SBC tool does not yet support the impacts of modifications
made to awards. If modifications have been made, please consult with your
accountant and/or auditor for adjustments that may need to be made.