How is stock-based compensation expense recognized over the vesting period?

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AcadiFi · Accepted Answer

For equity-classified awards such as employee stock options, compensation cost is generally based on the grant-date fair value of the awards expected to vest. That total compensation cost is recognized over the requisite service period, usually on a straight-line basis unless the terms require a different attribution method. Companies also consider estimated forfeitures if the fact pattern asks for them.

Example: Copper Finch Health grants 12,000 options on January 1. Each option has a grant-date fair value of $6, and employees must work 3 years to vest. Management expects 10 percent of the awards to be forfeited before vesting. Expected options to vest are 10,800, so total compensation cost is $64,800. Straight-line expense is $21,600 per year for 3 years. If after year one management revises expected forfeitures downward and now expects 11,400 options to vest, the company adjusts cumulative compensation cost to reflect the updated estimate.

The FAR trap is using the stock price at exercise date for compensation expense. For equity awards, the measurement date is generally the grant date. Also, remember that compensation expense is recognized before anyone exercises the options because employees earn the award over the service period. Keep the timeline straight: grant-date fair value first, then allocate over vesting. Practice more in our CPA FAR question bank.

How is stock-based compensation expense recognized over the vesting period?

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