IFRS 2 — Share-based Payment
IFRS 2 Share-based Payment requires an entity to recognise share-based payment transactions (such as granted shares, share options, or share appreciation rights) in its financial statements, including transactions with employees or other parties to be settled in cash, other assets, or equity instruments of the entity. Specific requirements are included for equity-settled and cash-settled share-based payment transactions, as well as those where the entity or supplier has a choice of cash or equity instruments.
IFRS 2 was originally issued in February 2004 and first applied to annual periods beginning on or after 1 January 2005.
Summary of IFRS 2
In June 2007, the Deloitte IFRS Global Office published an updated version of our IAS Plus Guide to IFRS 2 Share-based Payment 2007 (PDF 748k, 128 pages). The guide not only explains the detailed provisions of IFRS 2 but also deals with its application in many practical situations. Because of the complexity and variety of share-based payment awards in practice, it is not always possible to be definitive as to what is the ‘right’ answer. However, in this guide Deloitte shares with you our approach to finding solutions that we believe are in accordance with the objective of the Standard.
Definition of share-based payment
A share-based payment is a transaction in which the entity receives goods or services either as consideration for its equity instruments or by incurring liabilities for amounts based on the price of the entity’s shares or other equity instruments of the entity. The accounting requirements for the share-based payment depend on how the transaction will be settled, that is, by the issuance of (a) equity, (b) cash, or (c) equity or cash.
The concept of share-based payments is broader than employee share options. IFRS 2 encompasses the issuance of shares, or rights to shares, in return for services and goods. Examples of items included in the scope of IFRS 2 are share appreciation rights, employee share purchase plans, employee share ownership plans, share option plans and plans where the issuance of shares (or rights to shares) may depend on market or non-market related conditions.
IFRS 2 applies to all entities. There is no exemption for private or smaller entities. Furthermore, subsidiaries using their parent’s or fellow subsidiary’s equity as consideration for goods or services are within the scope of the Standard.
There are two exemptions to the general scope principle:
- First, the issuance of shares in a business combination should be accounted for under IFRS 3 Business Combinations. However, care should be taken to distinguish share-based payments related to the acquisition from those related to continuing employee services
- Second, IFRS 2 does not address share-based payments within the scope of paragraphs 8-10 of IAS 32 Financial Instruments: Presentation, or paragraphs 5-7 of IAS 39 Financial Instruments: Recognition and Measurement. Therefore, IAS 32 and IAS 39 should be applied for commodity-based derivative contracts that may be settled in shares or rights to shares.
IFRS 2 does not apply to share-based payment transactions other than for the acquisition of goods and services. Share dividends, the purchase of treasury shares, and the issuance of additional shares are therefore outside its scope.
Recognition and measurement
The issuance of shares or rights to shares requires an increase in a component of equity. IFRS 2 requires the offsetting debit entry to be expensed when the payment for goods or services does not represent an asset. The expense should be recognized as the goods or services are consumed. For example, the issuance of shares or rights to shares to purchase inventory would be presented as an increase in inventory and would be expensed only once the inventory is sold or impaired.
The issuance of fully vested shares, or rights to shares, is presumed to relate to past service, requiring the full amount of the grant-date fair value to be expensed immediately. The issuance of shares to employees with, say, a three-year vesting period is considered to relate to services over the vesting period. Therefore, the fair value of the share-based payment, determined at the grant date, should be expensed over the vesting period.
As a general principle, the total expense related to equity-settled share-based payments will equal the multiple of the total instruments that vest and the grant-date fair value of those instruments. In short, there is truing up to reflect what happens during the vesting period. However, if the equity-settled share-based payment has a market related performance condition, the expense would still be recognized if all other vesting conditions are met. The following example provides an illustration of a typical equity-settled share-based payment.
Illustration – Recognition of employee share option grant
Company grants a total of 100 share options to 10 members of its executive management team (10 options each) on 1 January 20X5. These options vest at the end of a three-year period. The company has determined that each option has a fair value at the date of grant equal to 15. The company expects that all 100 options will vest and therefore records the following entry at 30 June 20X5 – the end of its first six-month interim reporting period.
|Dr. Share option expense||250|
|[(100 × 15) ÷ 6 periods] = 250 per period|
If all 100 shares vest, the above entry would be made at the end of each 6-month reporting period. However, if one member of the executive management team leaves during the second half of 20X6, therefore forfeiting the entire amount of 10 options, the following entry at 31 December 20X6 would be made:
|Dr. Share option expense||150|
|[(90 × 15) ÷ 6 periods = 225 per period. [225 × 4] – [250+250+250] = 150|
Depending on the type of share-based payment, fair value may be determined by the value of the shares or rights to shares given up, or by the value of the goods or services received:
- General fair value measurement principle. In principle, transactions in which goods or services are received as consideration for equity instruments of the entity should be measured at the fair value of the goods or services received. Only if the fair value of the goods or services cannot be measured reliably would the fair value of the equity instruments granted be used.
- Measuring employee share options. For transactions with employees and others providing similar services, the entity is required to measure the fair value of the equity instruments granted, because it is typically not possible to estimate reliably the fair value of employee services received.
- When to measure fair value – options. For transactions measured at the fair value of the equity instruments granted (such as transactions with employees), fair value should be estimated at grant date.
- When to measure fair value – goods and services. For transactions measured at the fair value of the goods or services received, fair value should be estimated at the date of receipt of those goods or services.
- Measurement guidance. For goods or services measured by reference to the fair value of the equity instruments granted, IFRS 2 specifies that, in general, vesting conditions are not taken into account when estimating the fair value of the shares or options at the relevant measurement date (as specified above). Instead, vesting conditions are taken into account by adjusting the number of equity instruments included in the measurement of the transaction amount so that, ultimately, the amount recognized for goods or services received as consideration for the equity instruments granted is based on the number of equity instruments that eventually vest.
- More measurement guidance. IFRS 2 requires the fair value of equity instruments granted to be based on market prices, if available, and to take into account the terms and conditions upon which those equity instruments were granted. In the absence of market prices, fair value is estimated using a valuation technique to estimate what the price of those equity instruments would have been on the measurement date in an arm’s length transaction between knowledgeable, willing parties. The standard does not specify which particular model should be used.
- If fair value cannot be reliably measured. IFRS 2 requires the share-based payment transaction to be measured at fair value for both listed and unlisted entities. IFRS 2 permits the use of intrinsic value (that is, fair value of the shares less exercise price) in those “rare cases” in which the fair value of the equity instruments cannot be reliably measured. However this is not simply measured at the date of grant. An entity would have to remeasure intrinsic value at each reporting date until final settlement.
- Performance conditions. IFRS 2 makes a distinction between the handling of market based performance conditions from non-market performance conditions. Market conditions are those related to the market price of an entity’s equity, such as achieving a specified share price or a specified target based on a comparison of the entity’s share price with an index of share prices of other entities. Market based performance conditions are included in the grant-date fair value measurement (similarly, non-vesting conditions are taken into account in the measurement). However, the fair value of the equity instruments is not adjusted to take into consideration non-market based performance features – these are instead taken into account by adjusting the number of equity instruments included in the measurement of the share-based payment transaction, and are adjusted each period until such time as the equity instruments vest.
Note: Annual Improvements to IFRSs 2010–2012 Cycle amends the definitions of ‘vesting condition’ and ‘market condition’ and adds definitions for ‘performance condition’ and ‘service condition’ (which were previously part of the definition of ‘vesting condition’). The amendments are effective for annual periods beginning on or after 1 July 2014.
Modifications, cancellations, and settlements
The determination of whether a change in terms and conditions has an effect on the amount recognized depends on whether the fair value of the new instruments is greater than the fair value of the original instruments (both determined at the modification date).
Modification of the terms on which equity instruments were granted may have an effect on the expense that will be recorded. IFRS 2 clarifies that the guidance on modifications also applies to instruments modified after their vesting date. If the fair value of the new instruments is more than the fair value of the old instruments (e.g. by reduction of the exercise price or issuance of additional instruments), the incremental amount is recognized over the remaining vesting period in a manner similar to the original amount. If the modification occurs after the vesting period, the incremental amount is recognized immediately. If the fair value of the new instruments is less than the fair value of the old instruments, the original fair value of the equity instruments granted should be expensed as if the modification never occurred.
The cancellation or settlement of equity instruments is accounted for as an acceleration of the vesting period and therefore any amount unrecognized that would otherwise have been charged should be recognized immediately. Any payments made with the cancellation or settlement (up to the fair value of the equity instruments) should be accounted for as the repurchase of an equity interest. Any payment in excess of the fair value of the equity instruments granted is recognized as an expense
New equity instruments granted may be identified as a replacement of cancelled equity instruments. In those cases, the replacement equity instruments are accounted for as a modification. The fair value of the replacement equity instruments is determined at grant date, while the fair value of the cancelled instruments is determined at the date of cancellation, less any cash payments on cancellation that is accounted for as a deduction from equity.
Required disclosures include:
- the nature and extent of share-based payment arrangements that existed during the period
- how the fair value of the goods or services received, or the fair value of the equity instruments granted, during the period was determined
- the effect of share-based payment transactions on the entity’s profit or loss for the period and on its financial position.
IFRS 2 is effective for annual periods beginning on or after 1 January 2005. Earlier application is encouraged.
All equity-settled share-based payments granted after 7 November 2002, that are not yet vested at the effective date of IFRS 2 shall be accounted for using the provisions of IFRS 2. Entities are allowed and encouraged, but not required, to apply this IFRS to other grants of equity instruments if (and only if) the entity has previously disclosed publicly the fair value of those equity instruments determined in accordance with IFRS 2.
The comparative information presented in accordance with IAS 1 shall be restated for all grants of equity instruments to which the requirements of IFRS 2 are applied. The adjustment to reflect this change is presented in the opening balance of retained earnings for the earliest period presented.
IFRS 2 amends paragraph 13 of IFRS 1 First-time Adoption of International Financial Reporting Standards to add an exemption for share-based payment transactions. Similar to entities already applying IFRS, first-time adopters will have to apply IFRS 2 for share-based payment transactions on or after 7 November 2002. Additionally, a first-time adopter is not required to apply IFRS 2 to share-based payments granted after 7 November 2002 that vested before the later of (a) the date of transition to IFRS and (b) 1 January 2005. A first-time adopter may elect to apply IFRS 2 earlier only if it has publicly disclosed the fair value of the share-based payments determined at the measurement date in accordance with IFRS 2.
Differences with FASB Statement 123 Revised 2004
In December 2004, the US FASB published FASB Statement 123 (revised 2004) Share-Based Payment. Statement 123(R) requires that the compensation cost relating to share-based payment transactions be recognized in financial statements.Deloitte (USA) has published a special issue of its Heads Up newsletter summarising the key concepts of FASB Statement No. 123(R). While Statement 123(R) is largely consistent with IFRS 2, some differences remain, as described in a Q&A document FASB issued along with the new Statement:
Q22. Is the Statement convergent with International Financial Reporting Standards?
The Statement is largely convergent with International Financial Reporting Standard (IFRS) 2, Share-based Payment. The Statement and IFRS 2 have the potential to differ in only a few areas. The more significant areas are briefly described below.
Differences between the Statement and IFRS 2 may be further reduced in the future when the IASB and FASB consider whether to undertake additional work to further converge their respective accounting standards on share-based payment.
March 2005: SEC Staff Accounting Bulletin 107
On 29 March 2005, the staff of the US Securities and Exchange Commission issued Staff Accounting Bulletin 107 dealing with valuations and other accounting issues for share-based payment arrangements by public companies under FASB Statement 123R Share-Based Payment. For public companies, valuations under Statement 123R are similar to those under IFRS 2 Share-based Payment. SAB 107 provides guidance related to share-based payment transactions with nonemployees, the transition from nonpublic to public entity status, valuation methods (including assumptions such as expected volatility and expected term), the accounting for certain redeemable financial instruments issued under share-based payment arrangements, the classification of compensation expense, non-GAAP financial measures, first-time adoption of Statement 123R in an interim period, capitalisation of compensation cost related to share-based payment arrangements, accounting for the income tax effects of share-based payment arrangements on adoption of Statement 123R, the modification of employee share options prior to adoption of Statement 123R, and disclosures in Management’s Discussion and Analysis (MD&A) subsequent to adoption of Statement 123R. One of the interpretations in SAB 107 is whether there are differences between Statement 123R and IFRS 2 that would result in a reconciling item:
Question: Does the staff believe there are differences in the measurement provisions for share-based payment arrangements with employees under International Accounting Standards Board International Financial Reporting Standard 2, Share-based Payment (‘IFRS 2’) and Statement 123R that would result in a reconciling item under Item 17 or 18 of Form 20-F?
Interpretive Response: The staff believes that application of the guidance provided by IFRS 2 regarding the measurement of employee share options would generally result in a fair value measurement that is consistent with the fair value objective stated in Statement 123R. Accordingly, the staff believes that application of Statement 123R’s measurement guidance would not generally result in a reconciling item required to be reported under Item 17 or 18 of Form 20-F for a foreign private issuer that has complied with the provisions of IFRS 2 for share-based payment transactions with employees. However, the staff reminds foreign private issuers that there are certain differences between the guidance in IFRS 2 and Statement 123R that may result in reconciling items. [Footnotes omitted]