Chapter 8 at 2.1 and Chapter 41 at 3.1).
Moreover, IFRS has no general requirements for accounting for the issue of equity
instruments. Rather, consistent with the position taken by the Conceptual Framework
(both the 2010 and 2018 versions) that equity is a residual rather than an item ‘in its own
right’, the amount of an equity instrument is normally measured by reference to the item
(expense or asset) in consideration for which the equity is issued, as determined in
accordance with IFRS applicable to that other item.
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This means that, when (as is commonly the case) an entity acquires an investment in a
subsidiary, associate or joint venture in return for the issue of equity instruments, there
is no explicit guidance in IFRS as to the required accounting in the separate financial
statements of the investor, and in particular as to how the ‘cost’ of such an item is to be
determined. This is discussed further in Chapter 8 at 2.1.1.A.
2.2.4
Some practical applications of the scope requirements
This section addresses the application of the scope requirements of IFRS 2 to a number
of situations frequently encountered in practice:
• remuneration in non-equity shares and arrangements with put rights over equity
shares (see 2.2.4.A below);
• the treatment in the consolidated accounts of the parent of an equity-settled award
of a subsidiary with a put option against the parent (see 2.2.4.B below);
• an increase in the counterparty’s ownership interest with no change in the number
of shares held (see 2.2.4.C below);
• awards for which the counterparty has paid ‘fair value’ (see 2.2.4.D below);
• a cash bonus which depends on share price performance (see 2.2.4.E below);
• cash-settled awards based on an entity’s ‘enterprise value’ or other formula
(see 2.2.4.F below);
• awards with a foreign currency strike price (see 2.2.4.G below);
• holding own shares to satisfy or ‘hedge’ awards (see 2.2.4.H below);
• shares or warrants issued in connection with a loan or other financial liability
(see 2.2.4.I below);
• options over puttable instruments classified as equity under the specific exception
in IAS 32 in the absence of other equity instruments (see 2.2.4.J below); and
• special discounts to certain categories of investor on a share issue
(see 2.2.4.K below).
The following aspects of the scope requirements are covered elsewhere in this chapter:
• employment taxes on share-based payment transactions (see 14 below); and
• instruments such as limited recourse loans and convertible bonds that sometimes fall
within the scope of IFRS 2 rather than IAS 32/IFRS 9 because of the link both to the
entity’s equity instruments and to goods or services received in exchange. Convertible
bonds are discussed at 10.1.6 below and limited recourse loans at 15.2 below.
2.2.4.A
Remuneration in non-equity shares and arrangements with put rights
over equity shares
A transaction is within the scope of IFRS 2 only where it involves the delivery of an
equity instrument, or cash or other assets based on the price or value of an ‘equity
instrument’, in return for goods or services (see 2.2.1 above).
In some jurisdictions, there can be fiscal advantages in giving an employee, in lieu of a
cash payment, a share that carries a right to a ‘one-off’ dividend, or is mandatorily
redeemable, at an amount equivalent to the intended cash payment. Such a share would
Share-based
payment
2533
almost certainly be classified as a liability under IAS 32 (see Chapter 43). Payment in
such a share would not fall in the scope of IFRS 2 since the consideration paid by the
entity for services received is a financial liability rather than meeting the definition of
an equity instrument (see the definitions in 2.2.1 above).
If, however, the amount of remuneration delivered in this way were equivalent to the
value of a particular number of equity instruments issued by the entity, then the
transaction would be in scope of IFRS 2 as a cash-settled share-based payment
transaction, since the entity would have incurred a liability (i.e. by issuing the
redeemable shares) for an amount based on the price of its equity instruments.
Similarly, if an entity grants an award of equity instruments to an employee together
with a put right whereby the employee can require the entity to purchase those shares
for an amount based on their fair value, both elements of that transaction are in the
scope of IFRS
2 as a single cash-settled transaction (see
9 below). This is
notwithstanding the fact that, under IAS 32, the share and the put right might well be
analysed as a single synthetic instrument and classified as a liability with no equity
component (see Chapter 43).
Differences in the classification of instruments between IFRS 2 and IAS 32 are discussed
further at 1.4.1 above.
Put options over instruments that are only classified as equity in limited circumstances
(in accordance with paragraphs 16A to 16B of IAS 32) are discussed at 2.2.4.J below.
2.2.4.B
Equity-settled award of subsidiary with put option against the parent –
treatment in consolidated accounts of parent
It is sometimes the case that a subsidiary entity grants an award over its own equity
instruments and, either on the same date or later, the parent entity separately grants the
same counterparty a put option to sell the equity instruments of the subsidiary to the
parent for a cash amount based on the fair value of the equity instruments. Accounting
for such an arrangement in the separate financial statements of the subsidiary and the
parent will be determined in accordance with the general principles of IFRS 2
(see 2.2.2.A above). However, IFRS 2 does not explicitly address the accounting
treatment of all such arrangements in the parent’s consolidated financial statements.
In our view, the analysis differs according to whether the put option is granted during
or after the vesting period and whether it relates to ordinary shares or to share options.
If the put option is granted during the vesting period (whether at the same time as the
grant of the equity instruments or later), the two transactions should be treated as linked
and accounted for in the consolidated financial statements as a single cash-settled
transaction from the date the put option is granted. This reflects the fact that this
situation is similar in group terms to a modification of an award to add a cash-settlement
alternative – see 10.1.4 below.
If the put option is only granted once the equity instruments have vested, the accounting
will depend on whether the equity instruments in the original share-based payment
transaction are unexercised options or whether they are ordinary shares.
If they are unexercised options, the vested options remain within the scope of IFRS 2
until they are exercised (see 2.2.2.E above) and, in this case, the put option should be
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treated as a linked transaction. Its effect in group terms is to modify the original award
from an equity- to a cash-settled tra
nsaction until final settlement date.
However, if the equity instruments are fully vested ordinary shares (whether free shares
or shares from the exercise of options), rather than unexercised options, they are
generally no longer within the scope of IFRS 2 as they are no different from any other
ordinary shares issued by the subsidiary. In such cases, the parent entity will need to
evaluate whether or not the grant of the put option, as a separate transaction which
modifies the terms of certain of the subsidiary’s equity instruments, falls within the
scope of IFRS 2. For example, the addition of a condition that relates to one (non-
controlling) shareholder of a subsidiary might indicate that it continues to be
appropriate to account for the arrangement in accordance with the requirements of
IFRS 2. By contrast, a modification to an entire class of ordinary shares would generally
not be within the scope of IFRS 2.
A similar analysis is required in a situation where an individual sells a controlling interest
in an entity for fair value and put and call options are granted over the individual’s
remaining non-controlling interest or over shares in the acquirer which have been given
to the individual in return for the business acquired. To the extent that the exercise
price of the call option depends on the fulfilment of a service condition in the period
following the acquisition of the controlling interest, it is likely that the arrangement will
fall within the scope of IFRS 2 with any payments contingent on future services
recognised as compensation costs.
Put options over non-controlling interests that do not fall within the scope of IFRS 2 are
addressed in Chapter 7 at 6.2.
2.2.4.C
Increase in ownership interest with no change in number of shares held
An arrangement typically found in entities with venture capital investors is one where an
employee (often part of the key management) subscribes initially for, say, 1% of the entity’s
equity with the venture capitalist holding the other 99%. The employee’s equity interest
will subsequently increase by a variable amount depending on the extent to which certain
targets are met. This is achieved not by issuing new shares but by cancelling some of the
venture capitalist’s shares. In our view, such an arrangement falls within the scope of
IFRS 2 as the employee is rewarded with an increased equity stake in the entity if certain
targets are achieved. The increased equity stake is consistent with the definition in
Appendix A of IFRS 2 of an equity instrument as ‘a contract that evidences a residual
interest...’ notwithstanding the fact that no additional shares are issued.
In such arrangements, it is often asserted that the employee has subscribed for a share
of the equity at fair value. However, the subscription price paid must represent a fair
value using an IFRS 2 valuation basis in order for there to be no additional IFRS 2
expense to recognise (see 2.2.4.D below).
2.2.4.D
Awards for which the counterparty has paid ‘fair value’
In certain situations, such as where a special class of share is issued, the counterparty
might be asked to subscribe a certain amount for the share which is agreed as being its
‘fair value’ for taxation or other purposes. This does not mean that such arrangements
fall outside the scope of IFRS 2, either for measurement or disclosure purposes, if the
Share-based
payment
2535
arrangement meets the definition of a share-based payment transaction. In many cases,
the agreed ‘fair value’ will be lower than a fair value measured in accordance with
IFRS 2 because it will reflect the impact of service and non-market performance vesting
conditions which are excluded from an IFRS 2 fair value. This is addressed in more
detail at 15.4.5 below.
2.2.4.E
Cash bonus dependent on share price performance
An entity might agree to pay its employees a €100 cash bonus if its share price remains
at €10 or more over a given period. Intuitively, this appears to be within the scope of
IAS 19 – Employee Benefits – rather than that of IFRS 2 because the employee is not
being given cash of equivalent value to a particular number of shares. However, it could
be argued that it does fall within the scope of IFRS 2 on the basis that the entity has
incurred a liability, and the amount of that liability is ‘based on’ the share price (in
accordance with the definition of a cash-settled share-based payment transaction) – it
is nil if the share price is below €10 and €100 if the share price is €10 or more. In our
view, either interpretation is acceptable.
2.2.4.F
Cash-settled awards based on an entity’s ‘enterprise value’ or other formula
As noted at 2.2.1 above, IFRS 2 includes within its scope transactions in which the entity
acquires goods or services by incurring a liability ‘based on the price (or value) of equity
instruments (including shares or share options) of the entity or another group entity’.
Employees of an unquoted entity may receive a cash award based on the value of the
equity of that entity. Such awards are typically, but not exclusively, made by venture
capital investors to the management of entities in which they have invested and which
they aim to sell in the medium term. Further discussion of the accounting implications
of awards made in connection with an exit event may be found at 15.4 below.
More generally, where employees of an unquoted entity receive a cash award based on
the value of the equity, there is no quoted share price and an ‘enterprise value’ has
therefore to be calculated as a surrogate for it. This begs the question of whether such
awards are within the scope of IFRS 2 (because they are based on the value of the
entity’s equity) or that of IAS 19.
In order for an award to be within the scope of IFRS 2, any calculated ‘enterprise value’
must represent the fair value of the entity’s equity. Where the calculation uses
techniques recognised by IFRS 2 as yielding a fair value for equity instruments (as
discussed at 8 below), we believe that the award should be regarded as within the scope
of IFRS 2.
Appendix B of IFRS 2 notes that an unquoted entity may have calculated the value of
its equity based on net assets or earnings (see 8.5.3.B below). [IFRS 2.B30]. In our view, this
is not intended to imply that it is always appropriate to do so, but simply to note that it
may be appropriate in some cases.
Where, for example, the enterprise value is based on a constant formula, such as a fixed
multiple of earnings before interest, tax, depreciation and amortisation (‘EBITDA’), in
our view it is unlikely that this will represent a good surrogate for the fair value of the
equity on an ongoing basis, even if it did so at the inception of the transaction. It is not
difficult to imagine scenarios in which the fair value of the equity of an entity could be
2536 Chapter 30
affected with no significant change in EBITDA, for example as a result of changes in
interest rates and effective tax rates, or a significant impairment of assets. Alternatively,
there might be a significant shift in the multiple of EBITDA equivalent to fair value, for
example if the entity were to create or acquire a significant item of intellectual property.
For an award by an individual entity, there is unlikely to be any significant difference in
the cost ultimately recorded under IFRS 2 or IAS 19. However, the disclosure
requirements of IFRS 2 are more onerous than those of IAS 19. In a group situation
where the parent entity grants the award to the employees of a subsidiary, the two
standards could result in different levels of expense in the books of the subsidiary
because IAS 19, unlike IFRS 2, does not require the employing subsidiary to recognise
an expense for a transaction which it has no direct obligation to settle and for which the
parent does not allocate the cost (see Chapter 31 at 2.2.2).
The accounting treatment of awards based on the ‘market price’ of an unquoted
subsidiary or business unit – where there is no actual market for the shares – raises
similar issues about whether an equity value is being used, as discussed more fully
at 6.3.8 below.
2.2.4.G
Awards with a foreign currency strike price
Many entities award their employees options with a foreign currency strike price. This
will arise most commonly in a multinational group where employees of overseas
subsidiaries are granted options on terms that they can pay the option strike price in
their local currency. Such awards may also arise where an entity, which has a functional
currency different from that of the country in which it operates (e.g. an oil company
based in the United Kingdom with a functional currency of United States dollars), grants
its UK-based employees options with a strike price in pounds sterling, which is a foreign
currency from the perspective of the currency of the financial statements.
Under IAS 32, as currently interpreted, such an award could not be regarded as an equity
instrument because the strike price to be tendered is not a fixed amount of the reporting
entity’s own currency (see Chapter 43 at 5.2.3). However, under IFRS 2, as discussed
at 2.2.1 above, equity instruments include options, which are defined as the right to
acquire shares for a ‘fixed or determinable price’. Moreover, it is quite clear from the
Basis for Conclusions in IFRS 2 that an award which ultimately results in an employee
receiving equity is equity-settled under IFRS 2 whatever its status under IAS 32 might
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 505
