Chapter 19 Study Notes

Question 1

Qualified incentive plan

Answer 1

the employer receives no tax deduction at all. If Universal’s plan qualifies, the company will receive no tax deduction upon exercise of the options and thus no tax consequences

Question 2

Non-qualifying incentive plan

Answer 2

the company deducts the difference between the market vs the exercise price at the exercise date.

Question 3

restricted stock

Answer 3

shares are rewarded to the employee with restrictions of a certain amount of years
has a date of grant(given)
date of vesting(allowed to sell and exercise)

Question 4

compensation expense

Answer 4

is determined on the day of grant at market value

Question 5

stock options

Answer 5

a large part of executive compensation

Question 6

intrinsic value

Answer 6

difference between market price and option price

Question 7

stock options should be reported at

Answer 7

fair value, estimated at the grant date

Question 8

option models should include

Answer 8

exercise price of the option
expected term of the option
current market price of the stock
expected dividends
expected risk free rate of return during the term of the option
expected volatility of the stock

Question 9

JE for recording compensation expense

Answer 9

compensation expense xx

Paid in Capital stock option xx

Question 10

changes in compensation expense recording estimates are

Answer 10

prospective, you don’t go back and change it

Question 11

entry to expire options

Answer 11

Paid in capital stock options (account balance)

Paid in capital expiration of stock options

Question 12

JE for exercise of pptions

Answer 12

cash xx
PIC stock options xx
Common stock xx
PIC excess of par xx

Question 13

qualified incentive plan

Answer 13

employer cannot deduct the expense of the options, but the employee pays no income tax on the options until exercised

Question 14

non qualified plan

Answer 14

employee pays the income tax on the options when granted, and the employer can deduct the difference between the exercise price and the market price at the exercise date, but they must record a deferred tax asset2
JE:
comp exp 20
     PIC           20
Deferred tax asset (40%*x20) 8
      Income tax expense            8

Question 15

Je for Non qualified plan when the tax benefit is greater than the deferred tax asset

Answer 15

Inc taxes pay ((50-35)10m40%) 20
Deferred Tax Asset 32
Paid in capital tax effect of stck opt 28

Question 16

JE for Non qualified plans when the tax benefit is less than the deferred tax asset

Answer 16

Inc tax Pay 20
PIC 12
Deferred tax asset 32

Question 17

cliff vesting

Answer 17

when the shares become vested on a single date

Question 18

graded vesting

Answer 18

when the options are awarded by percentage each year

Question 19

In order to book plan performance stock options it must be

Answer 19

probable we will meet it, if options are not exercised when we assumed they would be, we must go back and decrease the expense account

Question 20

if a target for plan performance is based on changes in the market you

Answer 20

record the compensation regardless of the target

Question 21

employee share purchase plans

Answer 21

employees can buy stock from the corporation at a discounted price
JE 
Cash(discounted price) 850
Compensation Exp       150
      Common Stock(market)    1000

Question 22

Rules for determining if an employee purchase of stock should be recorded

Answer 22

a. substantially all employees can participate
b. employees have no longer than one month after the price is fixed to decide whether to participate
c. the discount is no greater than 5% or is justified as reasonable

Question 23

Stock options when it comes to EPS

Answer 23

do not affect basic EPS are factored into diluted EPS

net income

Question 24

Basic EPS

Answer 24

net income/WASO

Question 25

stock dividend adjustment to EPS

Answer 25

net income/WASO*(adj. ex: 10% is 1.1)

Question 26

treasury shares acquired effect on EPS

Answer 26

net income/WASO-(treasury shares*(months acquired/12)

Question 27

preferred dividends effect on basic EPS

Answer 27

WASO

Question 28

stock options effect on EPS

Answer 28

doesnt affect basic EPS but the effect on diluted EPS is

net income/WASO +(shares exercisable - shares that can be reacquired)

Question 29

Convertible bonds option effect on diluted EPS

Answer 29

Net income + (interest exp saved - (tax rate * interest saved)/WASO + new shares from conversion

Question 30

effect of amortization on a bond on EPS if the bond was issued above or below par

Answer 30

net inc +[(interest saved + (disc/bond years)]*(1-tax rate)/WASO+bonds converted to stock

Question 31

if convertible bonds were issued during the period then this must be taken into account when calculating diluted EPS

Answer 31

interest saved…(months issued/12)/bonds converted(months issued/12)

Question 32

antidilutive securities

Answer 32

increase EPS, are ignored when calculating both basic and dilutive EPS, ex when warrants are sold for higher than the market price then they are unaffected

Question 33

incremental effect(of conversion) is calculated by

Answer 33

conversion of bonds ex: 12m shares

Question 34

if the incremental effect of a security is higher than basic EPS it is

Answer 34

antidilutive

Question 35

Treasury Stock method, proceeds include

Answer 35

1. the amount received from the hypothetical exercise of options or vesting restricted stock.
2. The total compensation from the award that’s not yet expensed
3. The difference between the eventual tax benefit and the amount recognized in expense.

Question 36

restricted stock awards

Answer 36

the expensed portion of the stock reward is added to the denominator ex:
no adj to the num/total award shares-remaining award shares = current vesting

Question 37

contingently issuable shares

Answer 37

if the level or target has been met then you add the amount of shares to the denominator