cancellations and settlements
5.2 Cancellations and settlements
An entity may cancel or settle a grant of equity instruments during the vesting period. IFRS 2 includes requirements that deal with such situations. This guidance does not cover those cases when a grant is cancelled by forfeiture when the vesting conditions are not satisfied which are dealt with in accordance with the requirements of the Standard for vesting conditions (see section 4.3 above).
The cancellation or settlement of an equity instrument is accounted for as an acceleration of vesting.
The amount that would otherwise have been recognised for services received over the reminder of the vesting period is therefore recognised immediately. [IFRS 2.28(a)]
Any payment made to the employee on cancellation or settlement is accounted for as a repurchase of an equity interest (i.e. as a deduction from equity) except to the extent that the payment exceeds the fair value of the equity instrument granted, measured at the repurchase date. Any such excess is recognised as an expense. [IFRS 2.28(b)]
The 2007 draft amendments will add the following guidance to paragraph 2.28(b): “However, if the share-based payment arrangement included liability components, the entity shall remeasure the fair value of the liability at the date of cancellation or settlement. Any payment made to settle
IFRS 2 also deals with the situation where new equity instruments may be granted to an employee in connection with the cancellation of existing equity instruments. If new equity instruments are granted and they are identified, on the date when they are granted, as replacement equity instruments for the cancelled equity instruments, this is accounted for as a modification of the original equity instruments (see section 5.1 above). The incremental fair value granted is the difference between the fair value of the replacement equity instruments and the net fair value of the cancelled equity instruments at the date the replacement equity instruments are granted. The net fair value of the cancelled equity instruments is their fair value, immediately before the cancellation, less the amount of any payment made to the employee that is accounted for as deduction from equity as described in the previous paragraph. [IFRS 2.28(c)]
If the entity does not identify new equity instruments granted as replacement equity instruments for those cancelled, the new equity instruments are accounted for as a new grant.
The Standard appears to imply a free choice as to whether an entity decides to identify replacement instruments. As indicated by Example 5.2A below, it will often be attractive to identify the new options as replacements because this will avoid accelerating the expense recognised for the original options. However, it would not give a fair presentation to characterise equity instruments as replacements when they were clearly unrelated to the cancelled instruments.
The determination of whether the issue of new options is a replacement of cancelled options requires careful assessment of the facts and circumstances surrounding those transactions. IFRS 2 does not provide specific guidance in this area. Factors that may indicate that a new issue of options identified as a replacement of the cancelled options is a replacement include:
• the new share options are with the same participants as the cancelled options;
• the new share options are issued at a fair value that is broadly consistent with the fair value of the cancelled options determined either at their original grant date (indicating a repricing) or the cancellation date (indicating a replacement);
• the transactions to issue and cancel the options are part of the same arrangement;
• the cancellation of the options would not have occurred unless the new options were issued;
and
• the cancellation of the options does not make commercial sense without the issue of the new options (and vice-versa).
If vested equity instruments are repurchased from employees, the payment made is accounted for as a deduction from equity, except to the extent that the payment exceeds the fair value of the repurchased instruments, measured at the repurchase date. Any such excess is recognised as an expense. [IFRS 2.29]
These requirements are illustrated by the following example.
Example 5.2A
Replacement of share options
Company O issued options with a 4-year vesting period to employees in 20X3. The options had an exercise price of CU10 per share and the fair value determined at the grant date was CU100,000. In 20X5, O cancelled those options and issued new options with an exercise price of CU3 per share. The fair value of the new share options at the grant date is CU75,000. If the new issue of share options is not considered a replacement of the existing share options, the remaining portion of the original fair value of CU100,000 should be expensed immediately and the fair value of the new issue should be recognised over its vesting period. Therefore, a total of CU175,000 would be expensed related to these options, much of the expense in earlier periods.
However, if O identifies the new issue of options as a replacement of the cancelled options, O accounts for the transaction similar to a modification. Therefore, O will continue to expense the portion of the CU100,000 not yet recognised over the original vesting period. Additionally, O will expense the incremental fair value of the new instruments over the old instruments determined at the date of modification over the remaining vesting period. If the old share options had a fair value of CU20,000 at the date they were cancelled, an incremental expense of CU55,000 [75,000-20,000] should be recognised. Therefore, a total of CU155,000 would be expensed related to these options.
The following example considers the situation where the replacement options are issued by a different entity in a group.
Example 5.2B
Issue of new options as a replacement of cancelled options
Company S is a publicly-listed subsidiary of Company P which is also publicly-listed. P decides to de-list S by purchasing all of its outstanding shares from existing shareholders at an amount determined to be fair value. As part of the transaction, all outstanding share options in S were cancelled. In return, P issued share options in P to the same employees of S whose share options in S were cancelled. The fair value of the new share options determined at the grant date approximate the fair value of the replaced options determined at the cancellation date.
In addition, the vesting terms and option lives of the new share options were adjusted to ensure consistency with the cancelled options.
Even though the share options are in a different entity that has different risks than S, the intention is to replace value held by the employees. Therefore, the transaction should be considered a replacement of equity instruments and accounted for in accordance with IFRS 2.28(c).
The 2007 draft amendments will clarify that a cancellation by a counterparty should be treated in the same way as a cancellation by the entity.
The principal issue that the amendment is intended to address is the treatment when members of a Save As You Earn (SAYE) scheme stop contributing to the scheme and therefore forfeit their right to exercise their share options. Some took the view that the payment of the contributions to the scheme was a non-market vesting condition and that therefore any expense should be reversed when a member ceased to make contributions and left the scheme.
However, the IASB concluded that the payment of contributions was a non-vesting condition because it was neither a service condition nor a performance condition. It also concluded that withdrawal from the scheme should be treated as a cancellation by the member and that this should be accounted for in the same way as prescribed in IFRS 2 for cancellations by the entity.