To prepare for your briefing with the firm's compensation consultants, Tom Lockharthas asked you to respond to the following questions. He wants all of your numerical answers supported by spreadsheet calculations and your narrative comments should reference authoritative citations to the literature whereappropriate.
1. What is the estimated value of each option granted if the Black-Scholes Option Pricing Model and SFAS No. 123R are used for accounting and reportingpurposes?
Instead of doing the entire calculation all at once, break it up into the following parts (see the formula on page4):
ln(S/K) (r+s^2/2)t s*t^.5
d-sub-1 d-sub-2 Ke^(-rt) C
Regardless of your answer to #1, for the rest of this take-home assignment, assume that the answer to #1 is$23.00.
2. Prepare and list the journal entry needed by the client to record the issuance of stock options at the grant date assuming that the client accounts for the stock option plan using SFAS No. 123Rguidelines.
3. Prepare and list the journal entry that the client must use to record compensation expenseat the end of each year for the next four years (the service period). Again, assume that the client uses SFAS No. 123R for accounting and reporting of its stockoptions.
4. Prepare and list the journal entry required by the client to record exercise of all the options at the end of the grant and service period. Again, assume that the client uses SFAS No. 123R for accounting and reporting of its stockoptions.
For parts 5 and 6, page 1134 (bottom) - 1135 of our textbook will be helpful. (Seventh Edition: 1145-1146.)
5. Prepare and list the journal entry required by the client to record income tax expense for 20X4 if the client adopts the incentive stock option plan describedabove.
6. How would your answer to question 5 change if the share-based compensation (stock option) plan did not qualify as an incentive stock option plan under the Internal Revenue Code. Remember, nonqualifying stock option plans generate a tax deduction for the company issuing the options when intrinsic value exists at the grant date (i.e., market price exceeds option price).
7. Complete the following pro forma schedule for 20X4 to compare the income statement effects resulting from the share-based compensation plan qualifying or not qualifying as an incentive stock option (ISO) plan under the Internal RevenueCode: