Share-based payments: FASB simplification initiative and common challenges

August 15, 2016

American Gas AssociationAccounting Principles Committee

Agenda— ASU 2016-09 changes to current GAAP

— Practical expedients for non-public entities

— Effective date and transition

3

ASU 2016-09 summary

— FASB issued ASU 2016-09, Improvements to Employee Share-Based

Payment Accounting on March 31, 2016.

— Intended to reduce the ongoing cost and complexity of accounting for

share-based payments.

— Transition provisions for each issue is different.

— Some changes will increase volatility in reported earnings.

Improve and simplify

4

Excess tax benefits and deficiencies

— APIC pool is eliminated.

— Eliminate delay in recording

excess tax benefits to when

realized.

What’s changing?

— Volatility in reported earnings.

— Changes to diluted EPS under

the treasury stock method.

— Valuation allowances may negate

impact.

— Difficult judgments if need partial

valuation allowance.

— Similar changes for tax benefits

for ESOPs.

Observations

Transition -

- Prospective for tax benefits and deficiencies & EPS.

- Cumm Catch to BOY retained earnings for Prior unrecognized benefits.

5

Excess tax benefits exampleGrant Date

1/1/20x1

Exercise price: $40(equal to market price)

Fair value per share option: $25

Vesting: 1 year cliff

Tax rate: 40%

Exercise Activity

20x2

Fair value of shares: $100

Tax benefit realized - $24($100 - $40) * 40%

6

Journal entriesRecording excess tax benefits

20X1 Current GAAP ASU 2016-09

Dr. Compensation expense

Cr. APIC

25

25

25

25

Dr. DTA

Cr. Deferred tax benefit

10

10

10

10

7

Journal entries - continuedRecording excess tax benefits

20X2 Current GAAP ASU 2016-09

Dr. Cash

Cr. APIC

40

40

40

40

Dr. Deferred tax expense

Cr. DTA

10

10

10

10

Dr. Current taxes payable

Cr. APIC

24

14

24

-

Cr. Current tax expense 10 24

Net P&L Impact - $14

8

Diluted EPS exampleGrant Date

1/1/20x1

Share options: 100,000

Exercise price: $40(equal to market price)

Fair value per share option: $10

Vesting: 4 year cliff

Options expected to vest: 80,000 shares

Tax rate: 40%

Compensation cost: $800,000 over 4 years ($10 x 80,000 shares)

20x1 Activity

Forfeitures: 2,000 shares (Expected to be the same for next 2 years)

Average market price per share: $100

Net income: $2.0 million(Before recognition of compensation expense

related to the share option grant)

Weighted-average common shares outstanding at 12/31/x1: 200,000

9

Diluted EPS calculationFor the year ended December 31, 20x1

Current

GAAP

ASU

2016-09

Net income before SBP compensation expense $2,000,000 $2,000,000

Compensation expense related to SBP, net of income taxes

$800,000 ÷ 4 years × 60% (net of related tax effect of 40%) (120,000) (120,000)

Net Income 1,880,000 1,880,000

Weighted-average shares outstanding 200,000 200,000

Incremental Shares 30,925 50,725

Total weighted-average shares outstanding 230,925 250,725

Diluted EPS $8.14 $7.50

10

Incremental shares calculationCurrent GAAP ASU 2016-09

Shares assumed issued on exercise of options(100,000 options outstanding at beginning of year +

98,000 options outstanding at end of year) ÷ 2 99,000 99,000

Shares repurchased at average market priceTotal assumed proceeds ÷ $100 average price (68,075) (48,275)

Incremental shares 30,925 50,725

Assumed proceeds from exercise of options99,000 (average options outstanding) × $40 $3,960,000 $3,960,000

Average unrecognized compensation cost related to

future services for EPS purposes 867,500 867,500

Tax benefits credited to equity on assumed exercise

based on average market price less weighted-average

exercise price 1,980,000 0.0

Total assumed proceeds $6,807,500 $4,827,500

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Excess tax benefit cash flow classification

— Requires an entity to present

excess tax benefits as an

operating activity.

What’s changing?

— Will result in increase in

operating cash flows.

— Eliminates need to separately

identify gross tax benefits.

Observations

Transition – prospective or retrospective transition method.

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Forfeitures

— Estimate forfeitures (current

GAAP) or reverse

compensation cost of forfeited

awards when they occur.

— Does not apply to

modifications or business

combinations.

What’s changing?

— Entity-wide election for all

award types.

— Greater volatility if forfeitures

occur unevenly.

— May have known future

forfeitures that can’t be

eliminated yet (e.g. planned

layoff).

Observations

Transition – Cumm Catch to BOY retained earnings.

Applies to

‘service condition’

only.

13

Acquirer replacement awards

Forfeitures business combination example

— AC exchanges replacement awards that require one year of

postcombination service for awards of TC for which employees

had completed 4 of the 5 years of the requisite service period

before the business combination.

— The FV of both awards is $100 at the acquisition date.

— At the acquisition date, AC estimates that 10% of the replacement

awards will be forfeited.

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Amount attributed to pre-combination service

Acquisition date fair value of award (ADFV) $100

Service provided to date 4 years

Total service required ÷ 5 years × 80%

80

Less estimated forfeitures in Year 5 (10%) (8)

$72

15

Forfeitures accounting policy comparison

Amount attributed to post-combination service

If forfeitures

are estimated

If forfeitures

are recognized

as they occur

ADFV $100 $100

Less estimated forfeitures (10) -

90 100

Less amount attributed to pre-combination service (72) (72)

Amount initially attributed to post-combination service $18 $28

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Forfeitures comparison, continued— Assumptions for post-combination accounting

10% forfeiture estimate is accurate

Forfeitures occur in month 6 of Year 5

Amount attributed to post-combination service

If forfeitures

are estimated

If forfeitures are recognized as

they occur

Gross Forfeitures

Quarter 1 $4.5 $7 $ 0

Quarter 2 4.5 7 (5)

Quarter 3 4.5 4.5 0

Quarter 4 4.5 4.5 0

$18 $23 ($5)

$18

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Tax withholding requirement

— Tax withholdings of up to the

maximum individual statutory

tax rate in the applicable

jurisdiction are permitted.

— Share withholding

disbursements are required to

be classified as a financing

activity on SOCF.

What’s changing?

— Allows companies to

determine a single rate for all

employees in a jurisdiction.

— May result in implementation

complexities.

— Policy choice currently,

predominant practice is

financing activity.

— Viewed as a substantive

treasury share repurchase.

Observations

Transition – Cumm Catch to BOY retained earnings and retrospective for

cash flows.

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Practical expedients for nonpublic entities

— Entities can elect to use the

simplified method to

determine expected term.

— Permits a one-time policy

election to change from

measuring all liability-

classified awards at fair value

to intrinsic value.

What’s changing?

— Could be useful for nonpublic

entities that do not have

relevant historical data.

— Measurement change

provides another opportunity

for entities to make this policy

election.

Observations

Transition – Prospective for expected term, Cumm Catch to BOY retained

earnings for measurement change.

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Practical expedient - expected termIs vesting only dependent on

a service condition?

Vesting is dependent upon satisfying a performance

condition

Is the performance condition probable of being achieved?

Estimate the expected term as the midpoint between the requisite service period and the

contractual term

Is the service period explicitly stated?

Estimate the expected term as the contractual term, if

the service period is implied

No

Yes

No

Yes

Yes

Yes

No

Award contains a market condition practical expedient

does not applyNo

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Effective date and transition

— Interim and annual periods

beginning after December 15,

2016.

Public entities

— Annual periods beginning

after December 15, 2017 and

interim periods in the following

year.

Other entities

— Early adoption is permitted in any interim or annual period.

However, entities must adopt the entire ASU in the same

period.

— If other than first quarter adoption, issues to be adopted

prospectively or by cumm catch are as of beginning of year.

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Key points to remember! — Some of these changes are policy

elections.

— Consider how increased volatility in

reported earnings may affect the entities

you audit.

— Transition provisions for each issue is

different.

— Early adoption is permitted in any interim

or annual period. However, entities must

adopt the entire ASU in the same period.

— See Defining Issues 16-11.

Thank you