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Compensation toolkit: Challenges for private company awards · PwC's accounting podcast

0:00
SPEAKER_00: Thought Leadership from PWC.
0:06
SPEAKER_03: Welcome to PWC's Accounting Podcast.
0:09
SPEAKER_03: I'm Heather Horn.
0:11
SPEAKER_03: Thanks for tuning in to another episode in our Toolkit series, where we're taking a deep dive each month into a single topic, recapping some of the basics, but also focusing in on frequently asked questions and judgmental areas.
0:25
SPEAKER_02: This month we are all about stock comp.
0:29
SPEAKER_02: So the guidance does allow for some different alternatives for private companies and how to measure their stock comp awards.
0:37
SPEAKER_01: Anytime we start introducing cash into the equation when we're dealing with stock comp, it can cause complexity or problems.
0:45
SPEAKER_03: That was Jay Celeber and Ken Stoller, two National Office Partners.
0:50
SPEAKER_03: So far this month, we've talked about a number of the building blocks of the stock comp model.
0:55
SPEAKER_03: Today, Ken and Jay get into some additional challenges as we talk about awards issued by private companies.
1:02
SPEAKER_03: Sometimes the challenges just reflect the complex structure that many private companies have, and other times they reflect the lack of liquidity the private company stock has.
1:13
SPEAKER_03: But either way, you'll want to pay attention to hear about some of the practical expedients as well as the pitfalls that we often see in dealing with these awards.
1:24
SPEAKER_03: There's a lot to cover, so let's get started.
1:42
SPEAKER_03: And I know throughout our prior podcasts, we've definitely touched on a few specific issues for private companies, but I also know there's many more because some of the unique challenges associated with being non-public when you're dealing with compensation.
1:58
SPEAKER_03: So, Jay, talking then just about private companies in general, can you highlight some of the key differences when it comes to accounting for stock comp?
2:08
SPEAKER_02: We certainly can.
2:09
SPEAKER_02: So the guidance does allow for some different alternatives for private companies and how to measure their stock comp awards.
2:18
SPEAKER_02: And there's some both for equity awards and liability classified awards.
2:22
SPEAKER_02: So maybe I'll start with the equity classified ones.
2:25
SPEAKER_02: And some of them aren't necessarily policy choices or practical expedients.
2:29
SPEAKER_02: Some are, but some aren't, but some accommodations that are made for private companies in certain circumstances.
2:35
SPEAKER_02: So with equity awards, the general expectation is that you should measure those at fair value, just like public companies.
2:43
SPEAKER_02: That's the preferable approach to use fair value.
2:46
SPEAKER_02: And this is one of the ones that's not necessarily an expedient.
2:51
SPEAKER_02: But since no public market exists for private company shares, of course, it requires a valuation to determine that amount.
2:59
SPEAKER_02: And frankly, that might be the hardest part of all for a private company from a valuation perspective, figuring out the fair value of the underlying share.
3:07
SPEAKER_02: And there's an AICPA guide called the valuation of privately held company equity securities issued as compensation.
3:15
SPEAKER_02: It's a multiple that a lot of people colloquially refer to as the cheap stock guide.
3:20
SPEAKER_02: And that gives a lot of helpful guidance in how to think about the fair value of the underlying stock.
3:26
SPEAKER_02: And I'm actually on the task force, whether that's in the midst of updating that guide right now.
3:31
SPEAKER_02: So folks may start to see some draft changes to that later on this year, particularly in the area of how to think about third-party sales of stock when you're evaluating what the fair value is.
3:42
SPEAKER_02: But getting back to sort of the valuation in the stock comp award itself, another alternative that's mentioned in the guidance is using the intrinsic value of the award instead of the fair value.
3:54
SPEAKER_02: But this is another one that's not really a choice.
3:57
SPEAKER_02: It's not something you can choose to do.
3:59
SPEAKER_02: It's designed to only be used if the award is so complex that you really can't figure out what the fair value is.
4:07
SPEAKER_02: And while that may sound good on the surface, since intrinsic value is generally lower than fair value, the flip side is that you have to remarket every period to a new intrinsic value through the income statement until it's finally settled.
4:20
SPEAKER_02: So it's marked to, I won't call it market because it's intrinsic value, but it's marked every period, so there's a lot of volatility.
4:26
SPEAKER_02: And frankly, we find this to be pretty rare because you'd essentially be saying you granted some award to an employee, but you can't figure out how much value you're giving away.
4:36
SPEAKER_02: So why did you do that?
4:38
SPEAKER_01: Maybe real quick, Jay was mentioning fair value and intrinsic value, just for for anybody who's not familiar with those terms.
4:44
SPEAKER_01: So if you think about a stock option, so stock option has an exercise price, that's the price that you can pay to buy the share.
4:52
SPEAKER_01: And often on the day that it's granted, say the stock price was$10, then the exercise price might also be set at$10.
5:00
SPEAKER_01: So in that example, there would be a fair value to that option.
5:03
SPEAKER_01: And that's where we've talked in previous podcasts about maybe using a Black Scholes valuation model to come up with the value.
5:10
SPEAKER_01: But the intrinsic value is just the difference between the stock price and the exercise price.
5:15
SPEAKER_01: So in that example, the intrinsic value would be zero at that point because the difference between the stock price and the exercise price is zero.
5:23
SPEAKER_01: So just wanted to level set a little bit there.
5:25
SPEAKER_03: You anticipated the question I was about to ask.
5:27
SPEAKER_03: So perfect.
5:28
SPEAKER_03: Thank you.
5:30
SPEAKER_03: So then, Jay, as you sort of think that through, I do know that there's some practical expedience here that the FASB would allow.
5:38
SPEAKER_03: So can you run through how that fits into this discussion?
5:43
SPEAKER_02: Yeah, sure.
5:44
SPEAKER_02: Sure.
5:45
SPEAKER_02: So the first one I'll mention is what's called calculated value, as opposed to, as Ken described, fair value.
5:54
SPEAKER_02: And what that is, it's kind of a bit of a hybrid of that.
5:57
SPEAKER_02: It's that is if you can't estimate a company-specific volatility of your stock, uh, or use maybe a reasonable group of public peer companies to come up with an estimated volatility for your stock.
6:14
SPEAKER_02: And volatility is one of the inputs that you would need to include in, say, that Black Shoals model that Ken mentioned to come up with the fair value of a stock option.
6:24
SPEAKER_02: You are allowed to use an industry index of volatility instead of coming up with a specific peer group to put into the valuation, and that's called calculated value.
6:36
SPEAKER_02: But that one we also don't find used very much in practice either, since most companies we find can come up with a reasonable peer group.
6:44
SPEAKER_02: And as long as you're using a peer group that's thought to reasonably estimate what maybe your stock's volatility is, that's still considered to be fair value under the guidance and not using that special exception.
6:54
SPEAKER_02: Now, the other one that we do find to be more commonly used relates to another of the inputs or assumptions that's used to value stock options.
7:05
SPEAKER_02: And that's about expected term of the option.
7:08
SPEAKER_02: And it actually builds on a practical expedient that's allowed for all companies, public and private, under some of the SEC's guidance in the staff accounting bulletin.
7:17
SPEAKER_02: And that allows you to use what's referred to as a simplified method for determining the expected term of the option.
7:25
SPEAKER_02: But the SEC only allows that simplified method to be used if the stock option in question is considered what it calls a plain vanilla option.
7:37
SPEAKER_02: And amongst other things, that can only have service vesting conditions, not performance or market ones, like we talked about in our first episode.
7:46
SPEAKER_02: So what the FASB allows for private companies is they allow a broader use of that simplified method, uh, including for awards with performance conditions or market conditions and repurchase features, which wouldn't be considered plain vanilla under the SEC's guidance.
8:03
SPEAKER_02: And generally, how this works is that instead of having to model out maybe what, based on history or otherwise, your expected term of an option is how long people hold on to the option before they exercise it, is you're allowed to basically use as your expected term assumption the midpoint, so halfway in between the vesting date and the legal life of the option.
8:30
SPEAKER_02: So if the award vests after four years and it has a 10-year legal life, you can take the midpoint between those two or seven years and use that as your expected term.
8:39
SPEAKER_02: It gets a little more complicated if there's some performance conditions or otherwise in there, which we don't need to get into here.
8:44
SPEAKER_02: But it but the guidance does sort of allow a little bit of a simplification in coming up with these assumptions.
8:50
SPEAKER_03: So Jay, I had to laugh when you said it gets more complicated because I think for most people, all of this is pretty complicated, but I guess there are relative degrees.
8:59
SPEAKER_03: So that's very helpful.
9:00
SPEAKER_03: And I do know this is intended to be a simplification.
9:03
SPEAKER_03: But Ken, let me go back to you because I think everything Jay has been talking about here seems to be really focused on the equity classified awards.
9:12
SPEAKER_03: And as we are listeners and I know from our prior podcasts, uh there are sometimes separate considerations for the liability classified ones.
9:21
SPEAKER_03: So is there anything specific that private companies should be thinking about if they are issuing or have liability classified stocks com?
9:31
SPEAKER_01: There is, and I think this is uh this is an excellent exception that is available in particular because uh we see many more liability classified awards with private companies than we do with public companies, as we talked a bit about in our second episode.
9:48
SPEAKER_01: So, as um as we talked about in that episode, in general, liability award is marked to market each period rather than fixing the the value up front like we do with an equity award.
9:59
SPEAKER_01: So we're marking it to market, and that's the general rule.
10:02
SPEAKER_01: And when we say mark to market, we're saying marking it to fair value.
10:06
SPEAKER_01: Uh but for non-public companies, there is an exception that allows for a policy choice to use intrinsic value rather than fair value.
10:17
SPEAKER_01: And we just talked a couple minutes ago about the difference between intrinsic and fair value.
10:22
SPEAKER_01: So that can uh really simplify things for a private company that has stock options, because if they were marking to fair value, that means every reporting period, they would need to be running new valuations of all of the options they have outstanding.
10:37
SPEAKER_01: But if they are marking to intrinsic value, then they don't have to determine the fair value of the option each period.
10:45
SPEAKER_01: They're just looking at what the intrinsic value is each period.
10:48
SPEAKER_01: So in my earlier example on day one, the stock price was 10, the exercise price was 10.
10:53
SPEAKER_01: So the intrinsic value starts out at zero, and so we would start with zero as the expense that we're recognizing.
10:59
SPEAKER_01: And then maybe we get to the end of the first reporting period, maybe the stock price has gone up to twelve dollars.
11:05
SPEAKER_01: So the intrinsic value is just the difference between the stock price and the exercise price of two bucks.
11:10
SPEAKER_01: And so now two dollars is what we're using to recognize the comp expense, and so on.
11:15
SPEAKER_01: So again, it's a policy choice.
11:17
SPEAKER_01: Uh, it it doesn't alleviate the need to come up with the fair value of the stock.
11:22
SPEAKER_01: And as Jay was mentioning, that also can be complicated for a private company, but got to do that anyway.
11:27
SPEAKER_01: But at least this allows companies not to have to go that extra step of then determining the fair value of the stock options that they're granting.
11:35
SPEAKER_03: Um, Ken, before you go on, let me just clarify then.
11:39
SPEAKER_03: Because in your example, you talked about it was 10, now it's 12, and you talked about stock price.
11:45
SPEAKER_03: So I know for myself and I'm sure our listeners were all thinking, oh, it's like what you can look up online when you have a publicly quoted company, but clearly that's not the case.
11:55
SPEAKER_03: And I think the clarification you're making is the stock price that you were discussing, what is based on fair value at that point.
12:04
SPEAKER_03: It's just you don't have to go that second step of then talking about the value of the option.
12:09
SPEAKER_03: Is that just to reiterate what you just said, I just want to make sure.
12:12
SPEAKER_01: Yeah, exactly right.
12:12
SPEAKER_01: So you have to come up with a fair value of the stock, which is the$12.
12:16
SPEAKER_01: And that can be complicated.
12:17
SPEAKER_01: And Jay was mentioning using that cheap stock guide to kind of uh give you some parameters.
12:22
SPEAKER_01: Um but once you come up with a fair value of the stock, then you you don't also then have to come up with the value of the option that we've granted on that stock, which has a strike price of 10 and the stock price is 12, but then all the other assumptions that would need to be developed to go into the Black Shoals model to come up with that value.
12:37
SPEAKER_01: And that's the benefit of this policy.
12:40
SPEAKER_01: So that clearly makes things easier for private companies.
12:43
SPEAKER_01: One of the things when I'm talking to some private companies about whether or not they want to uh make this election is some companies, if they think they might go public at some point in the future, they're hesitant to adopt private company exceptions because they know they are going to have to switch to public company rules once they go public, including recasting all of their historical financial statements uh in that initial registration statement.
13:07
SPEAKER_01: Importantly, here, the exception doesn't require recasting all of those historical statements.
13:13
SPEAKER_01: So it's kind of prospective treatment once you qualify as a public company, meaning continue to record at intrinsic value all the way up until the point that you qualify as a public company.
13:25
SPEAKER_01: And at that point, now you have to start recognizing at fair value, but you don't have to go back and recast things.
13:31
SPEAKER_01: And so that that really can make things easier for private companies.
13:34
SPEAKER_03: Yeah, sounds like almost no downside then in taking this expedient.
13:38
SPEAKER_03: So that's that's greater this exception.
13:40
SPEAKER_03: So I think that's all helpful when it comes to sort of broad base talking about accounting for the awards.
13:48
SPEAKER_03: But I know, Ken, that we actually also see a number of different types of awards when we're talking about private companies.
13:56
SPEAKER_03: And I think in many ways, this is where, you know, we've talked in past podcasts.
14:01
SPEAKER_03: This gets quite interesting because then it gets into incentivizing employees and all these different things.
14:06
SPEAKER_03: And maybe that looks a little different if you're dealing with a private company.
14:10
SPEAKER_03: So, can you give some examples of some of the things that you see in practice?
14:14
SPEAKER_01: Well, let me start with um one of the most common and most complicated.
14:20
SPEAKER_01: Um, and that's called a profits interest.
14:24
SPEAKER_01: And for those who are unfamiliar with profits interests, I'll just kind of describe what that is a little bit.
14:31
SPEAKER_01: Um, first of all, the these are only issued by pass-through entities, so partnerships or limited liability companies.
14:42
SPEAKER_01: And the way they work economically is they only entitle the holder to participate in future profits or future appreciation of the entity.
14:55
SPEAKER_01: So on the day that I get it, if we were hypothetically, if we were to liquidate the business on the day that I receive that thing, I would get nothing because I'm only entitled to future growth.
15:06
SPEAKER_01: And so there are special tax rules on how the employee, the recipient, is taxed on a profits interest, which makes employees love these things.
15:18
SPEAKER_01: Because for tax purposes, since that liquidation value on day one is zero, uh, the IRS said, we will allow you to treat this thing as having zero compensation, and so there's never ordinary income tax that the employee has to pay.
15:35
SPEAKER_01: And so any future appreciation of this instrument is all going to be tax-to-capital gains rates, which employees like because those are gonna be lower than ordinary income tax rates.
15:47
SPEAKER_01: So these are super popular with partnerships and LLCs, and we see a lot of these in practice.
15:53
SPEAKER_01: So that's what it is, that's the economics, that's the tax.
15:57
SPEAKER_01: Now let's talk about the accounting a little bit.
16:00
SPEAKER_01: There's nothing in GAP that specifically discusses how to account for profits interests.
16:06
SPEAKER_01: The best we've got is a speech made by a member of the SEC staff back in 2006, where uh profits, interests were mentioned and basically said there's a lot of different flavors, designs, bells and whistles when it comes to these profits interests.
16:27
SPEAKER_01: And so you need to understand the substance and the economics of how the thing works, and then figure out whether it's acting more like a real equity ownership interest in the entity, or is it acting more like just some kind of profit sharing bonus compensation liability to the employee?
16:49
SPEAKER_01: So clearly a lot of judgment is gonna be necessary when we're trying to make that kind of determination.
16:56
SPEAKER_01: Uh, in fact, in our stock compensation guide in chapter six, we have a whole list of factors that a company might think about when trying to make that determination.
17:06
SPEAKER_01: Uh, and so you go through the factors, and usually uh there's gonna be a ver a host of factors that are a little bit equity-like, a host that are liability-like.
17:15
SPEAKER_01: You're gonna have to put them on the scale, use your judgment, see what it what it seems to be acting more like.
17:21
SPEAKER_01: But in practice, there's one factor that we find carries much more weight uh in our view when we're analyzing one of these things.
17:32
SPEAKER_01: And that is what happens when the employee leaves the company.
17:38
SPEAKER_01: So take on the one hand, if the employee leaves the company, they've got this profits interest, if you can leave and continue to hold that interest forever, uh, or if the company has the ability to buy it back from you when you leave, but they're going to pay you fair value for that instrument, that feels very equity-like, right?
18:02
SPEAKER_01: That's kind of how a real owner of the business would operate when they're holding a share of stock.
18:08
SPEAKER_01: They could either hold it forever, or if they're gonna get bought out, they're gonna get bought out of fair value.
18:12
SPEAKER_01: So call that bucket one.
18:15
SPEAKER_01: In bucket two, you might have an arrangement where when you leave, either you just have to give the profit interest back for nothing, uh, or maybe the company will pay you something, but it's clearly not fair value.
18:28
SPEAKER_01: So the economics there is you're gonna, while you're an employee, if there's any ever any profits that are distributed on the profits interest, you you're gonna receive those, but as soon as you leave, you don't get them anymore.
18:38
SPEAKER_01: So that feels a lot more like just some profit sharing cash bonus type plan.
18:44
SPEAKER_01: So that's bucket too.
18:45
SPEAKER_01: And so when when we're analyzing one of these things, again, there's a whole lot of factors to consider, but that that factor on what happens when the employee leaves uh will oftentimes kind of be the decisive in tipping the scales toward equity or tipping it toward liability.
19:01
SPEAKER_01: And then once the scales are tipped, then we just follow kind of whatever gap would make sense.
19:07
SPEAKER_01: If it's an equity-like instrument, then you've given the employee something that's equity, and therefore we're gonna apply stock comp accounting under 718 and go through all of the stuff we've been talking about in the previous podcasts.
19:18
SPEAKER_01: And then, of course, on the flip side, if it's just a cash bonus plan, then you know treat it like a cash bonus plan.
19:24
SPEAKER_01: The one thing I will mention though, if we're treating it like equity and we're accounting for it as stock comp, I mentioned earlier that for tax purposes on day one, the IRS allows it to be viewed as having no value, because if it were to liquidate on day one, you would get nothing.
19:41
SPEAKER_01: But for accounting purposes, we definitely don't think this thing has no value.
19:45
SPEAKER_01: It's kind of like what we were talking about with the stock options, the difference between fair value and intrinsic value.
19:50
SPEAKER_01: It's like the same thing here with the profits interest, right?
19:52
SPEAKER_01: It the intrinsic value on day one is zero, but clearly there's a value to having this thing and potentially participating in the future appreciation.
20:01
SPEAKER_01: And so, in fact, most of the time when we're valuing the profits interest to determine our accounting expense, it will be valued very similar to how a stock option is valued and kind of Black Shoel's model or something, or something like that.
20:15
SPEAKER_01: And I'll also just mention I did say that there's no gap specifically on profits interests.
20:21
SPEAKER_01: That may or may not change.
20:22
SPEAKER_01: The um the private company council of the FASB, they have been considering whether to take a project on to uh to put some guidance together related to profits interests, just to clarify, because obviously this is a complex area.
20:37
SPEAKER_01: Um at the last meeting where they talked about this, they said while these things tend to relate to private companies because it's only partnerships or LLCs that grant these, they can exist at publics also because you could have a partnership or an LLC within the public company corporate structure.
20:54
SPEAKER_01: And so they said maybe it's just better that the FASBE takes this on, because uh, and you know, just provide some guidance that'll be applicable to everybody.
21:02
SPEAKER_01: And it seemed like the FASBE, there were some board members at that meeting, it seemed like they were open to that.
21:07
SPEAKER_01: So there may be some uh FASBE guidance forthcoming, but based on all the discussions so far, I it sounds like any guidance that comes out would be very in line with the discussion we just had here and the discussion that we have in uh in uh chapter six of our Stockcom guide.
21:22
SPEAKER_03: All right, Ken, that's helpful.
21:24
SPEAKER_03: And I'm actually glad you clarified that point on public companies because I had a public company client that had these, and I kept thinking, wait, this is supposed to be private only.
21:34
SPEAKER_03: So I'm glad you clarified that point.
21:36
SPEAKER_03: So then let me go on though.
21:38
SPEAKER_03: Are there other types of transactions that you do see more often?
21:42
SPEAKER_03: And you did say these are also more often in private companies.
21:46
SPEAKER_03: Any other ones that we often see when dealing with our um private company clients?
21:52
SPEAKER_01: Yeah, another one of the more complicated areas that are relatively common in private companies.
22:00
SPEAKER_01: With what are referred to as equity restructurings.
22:04
SPEAKER_01: So that's a fancy term, and now I'll give kind of the fancy definition and then try to explain all of it in plain English.
22:11
SPEAKER_01: The paraphrased fancy definition, an equity restructuring is a non-reciprocal transfer of value to the owners of a business that has an impact on the stock price.
22:24
SPEAKER_01: Non-reciprocal transfer of value.
22:27
SPEAKER_01: So let me maybe give an example.
22:29
SPEAKER_01: And this example is actually what's most common in private companies, and hopefully this example will make clear what those fancy words mean.
22:40
SPEAKER_01: So picture you've got a you've got a business, and let's just say the stock price of this business is 10 bucks.
22:48
SPEAKER_01: And the business decides it's going to distribute$100 million of its cash out to the owners of the business.
22:57
SPEAKER_01: So as soon as that distribution happens, the business is smaller.
23:03
SPEAKER_01: It's smaller by$100 million.
23:06
SPEAKER_01: And because the business now is smaller by$100 million, the stock price is going to change accordingly.
23:13
SPEAKER_01: And if that hundred million dollars equated to, let's say, three bucks a share, then yesterday's ten dollar share price is going to come down to seven dollars because of the distribution.
23:25
SPEAKER_01: So that is an equity restructuring.
23:29
SPEAKER_01: That's one example.
23:30
SPEAKER_01: There's other examples of equity restructurings that we tend to see more in public companies, but this is what is by far the most common with a private.
23:38
SPEAKER_01: So the stock price came down from$10 to$7.
23:42
SPEAKER_01: Now, most stock comp awards that are held by employees don't participate automatically in that type of a distribution.
23:54
SPEAKER_01: So while the stockholders are happy with the situation, because yesterday they held a share of stock that was worth$10.
24:01
SPEAKER_01: Today they hold a share of stock that's worth seven, but they've also got$3 from that dividend.
24:06
SPEAKER_01: So they've still got$10 worth of stuff.
24:08
SPEAKER_01: It's just a little bit different.
24:10
SPEAKER_01: The employee, maybe they were holding a restricted stock unit yesterday.
24:15
SPEAKER_01: And so the value of a restricted stock unit is the same as the value of a share.
24:19
SPEAKER_01: So yesterday that restricted stock unit was worth$10.
24:22
SPEAKER_01: Well, today that restricted stock unit is worth seven.
24:25
SPEAKER_01: But they didn't participate in that distribution.
24:29
SPEAKER_01: So they're harmed as a result.
24:32
SPEAKER_01: And companies don't want that to happen to their employees, usually.
24:37
SPEAKER_01: And so in almost all situations, a company is going to make the employees who hold the stock awards whole in some way.
24:46
SPEAKER_01: And in the real world, there's a variety of ways that we might make the person whole.
24:51
SPEAKER_01: Sometimes we'll just pay them cash, pay them$3, just like the shareholders.
24:57
SPEAKER_01: Sometimes we might give them some extra equity just to make it up to them.
25:01
SPEAKER_01: Sometimes if they hold options, maybe we'll reduce the exercise price, that will increase the value.
25:08
SPEAKER_01: So we see all of those.
25:09
SPEAKER_01: Sometimes it's a combination of those things, and we see all of that in practice.
25:14
SPEAKER_01: But any of those things when we're kind of adjusting or making whole, that is a modification of the original arrangement.
25:25
SPEAKER_01: And so just like we talked about in the last episode on modifications, we got to run it through the stock comp modification accounting model.
25:34
SPEAKER_01: But there's a very important first step before we start digging into the modification model.
25:40
SPEAKER_01: And this is where some companies can get um can get caught by surprise.
25:48
SPEAKER_01: And it deals with whether the original terms of the award required the company to make that person whole or not.
25:57
SPEAKER_01: So in the first scenario, we might have an original, you know, the original stock option agreement said, if there is an equity restructuring, and sometimes this is referred to as an anti-dilution provision, it'll say, if there's an equity restructuring, then you will be made whole.
26:16
SPEAKER_01: It's required.
26:18
SPEAKER_01: In scenario B, maybe the original option agreement is silent, doesn't even say what would happen if there was an equity restructuring, or it might have one of those anti-dilution provisions, but it'll say if there's an equity restructuring, then we may make you whole, or something to that effect.
26:39
SPEAKER_01: So clearly there's discretion for the company to decide whether or not to make the person whole.
26:45
SPEAKER_01: So depending on whether we're in scenario A required or scenario B discretionary, you'll get a very different accounting result when you run it through the modification model.
26:56
SPEAKER_01: Because if it's required, then we'd say, and remember back to the last episode when we're doing modification accounting, the general model is we compare the value of the arrangement or the instrument yesterday before the modification to the value immediately after.
27:12
SPEAKER_01: And so the value yesterday of my RSU, the well, the actual value was seven, but if I know I'm meant to be made whole, then we can say the value even before the modification was 10, because I'm required to be kept whole.
27:26
SPEAKER_01: And then the value after is also 10 because the company actually made me whole, and maybe now I have a seven dollar RSU and$3 of cash or something else.
27:37
SPEAKER_01: Um as opposed to in scenario two, the value before was only$7 because the RSU was worth seven bucks, but the value after is now worth$10 because I've been given that make hole.
27:52
SPEAKER_01: And so there would be$3 of incremental value or$3 of extra expense that the company has given to me.
27:58
SPEAKER_01: So a fundamentally different answer for that very same make-hole payment or make-hole adjustment that the company gives, simply based on whether or not the original agreement required it or not.
28:10
SPEAKER_03: Wow.
28:11
SPEAKER_03: So definitely a case where the initial structuring of the plan is going to make a big difference for the future accounting.
28:18
SPEAKER_03: I guess on that point then, any other sort of red flags that you would advise people to look for in these types of arrangements?
28:26
SPEAKER_01: Yeah, so um it is common with these equity restructurings where it's a large, non-recurring cash dividend that's causing the equity restructuring.
28:39
SPEAKER_01: It's common that the make-hole that the employee receives is also a cash payment.
28:44
SPEAKER_01: Um, they're often treated, you know, the company wants to treat the employees similar to the way they're treating the shareholders.
28:50
SPEAKER_01: And if the shareholders receive cash, then we'll give cash to the employee.
28:55
SPEAKER_01: And as we know from previous episodes, anytime we start introducing cash into the equation when we're dealing with stock comp, it can cause complexity or problems.
29:05
SPEAKER_01: Uh, and the same is true here.
29:08
SPEAKER_01: So, one of the things to watch out for, sometimes actually I'll see companies taking expense charges that they don't need to when there's a cash payment.
29:17
SPEAKER_01: Because picture when I describe scenario A or scenario one, whatever I was calling it, uh, where it's a required required make-hole.
29:26
SPEAKER_01: And uh and so in that situation, the value before and the value after are the same.
29:31
SPEAKER_01: And so there isn't any additional expense charge necessary.
29:35
SPEAKER_01: The make hole was a three-dollar payment, but there's no incremental value from that modification.
29:41
SPEAKER_01: Well, when companies actually go through one of these and they make a$3 payment to an employee, it's just it's natural to assume that if I'm making a payment to my employee, it must be an expense charge because that's what I do with salary, that's what I do with bonuses and whatever.
29:57
SPEAKER_01: And so company just automatically assumes because it's a cash payment, I need to expense that.
30:01
SPEAKER_01: And that isn't the case if we have that required anti-dilution language in the agreement.
30:07
SPEAKER_01: So that's an important one to watch out for.
30:11
SPEAKER_03: Well, so then where do you record the debit?
30:15
SPEAKER_01: Yeah, so it would be against equity and the what what what that journal entry, the story that that journal entry is telling me, is we've effectively kind of repurchased some of the equity and converted it into cash.
30:29
SPEAKER_01: Right.
30:30
SPEAKER_01: So now instead of crediting equity for the entire value of the arrangement, now we will have credits to equity for a portion of the arrangement, but credits to cash for the remainder.
30:41
SPEAKER_03: Seems logical.
30:44
SPEAKER_01: So uh so that's the first item, but the couple couple other potential issues when we're when we're dealing with a cash make hole.
30:51
SPEAKER_01: So the first is when that$3 is paid, um, oftentimes the award itself is not yet vested.
31:00
SPEAKER_01: Uh let's say we were halfway through the ving period on the uh the stock comp award.
31:05
SPEAKER_01: Um a lot of times, though, the cash payment doesn't require future vesting.
31:09
SPEAKER_01: It's just paid and you get to keep that, even if you ultimately don't v in the share, you leave the company, you forfeit the share or the option, you get to keep the cash.
31:20
SPEAKER_01: Well, the substance of what's going on there is we've actually accelerated the vesting for a portion of the arrangement because before all this happened, I just had an option or an RSU that I was I was expensing over the ving period.
31:36
SPEAKER_01: Now I've taken a portion of the value of that thing.
31:39
SPEAKER_01: In my example, like 30%, it was worth$10, and now I'm paying out$3 of it.
31:44
SPEAKER_01: So I really took 30% of it and I accelerated the ving on it because you get to keep that$3 no matter what.
31:50
SPEAKER_01: So because we've accelerated the vesting on some of the award, we need to think about accelerating the expense recognition on a portion of the award as well that otherwise would have been spread over the entire vesting period.
32:04
SPEAKER_01: So that's another one that catches some companies by surprise.
32:08
SPEAKER_01: And then we can have the flip side, which is we might have the cash payment that does require future vingt.
32:16
SPEAKER_01: And some companies will do this.
32:17
SPEAKER_01: They'll say if the option or the share isn't going to vest for another year, then the cash payment of$3 will also vest at the end of that year.
32:25
SPEAKER_01: So you'll lose all of it if you leave before the year is up.
32:28
SPEAKER_01: So that also gets complicated because now what we've effectively done is converted what was an entirely equity-based award now into an award that is partially based on equity but partially based on cash.
32:42
SPEAKER_01: So we've made an equity to liability modification for a part of the award, which we talked about in the last episode, gets complicated because when you do an equity-to-liability modification, you need to take a mark-to-market charge to get that liability onto the books.
32:57
SPEAKER_01: That also catches some companies by surprise.
33:00
SPEAKER_01: So I guess the the big picture I'll just to wrap up to this question is uh if you're making cash payments, it can cause complexity and make sure you dig into the accounting.
33:11
SPEAKER_03: That seems very simple compared to what you just described, but definitely a good reminder there to real No, no, no.
33:19
SPEAKER_03: It was good to go through all of that to get to the punchline and definitely a lot to think about there.
33:24
SPEAKER_03: So, Jade, let me actually go back to you then with my next question, because I know that we often see cases where companies actually provide loans to their employees to purchase stock, maybe to give some more liquidity considerations or or otherwise.
33:40
SPEAKER_03: And just curious from your experience, what those tend to look like and if there's other types of structures that we may also see similarly to help with some of the, I'll call it more common private company liquidity issues.
33:53
SPEAKER_02: Oh, sure.
33:54
SPEAKER_02: Yeah, we definitely do see our share of loans provided to allow people to either buy the stock or exercise stock options at private companies.
34:06
SPEAKER_02: And I'll sort of say there's twofold reasons for seeing it.
34:10
SPEAKER_02: Uh, obviously, as a since the stock isn't public and the company uh shares aren't traded, and the employee can't just say go sell some shares in the market to generate the cash, to exercise the option, they have liquidity needs, so the company might be willing to provide liquidity needs.
34:29
SPEAKER_02: And why the employees might want to do this is it's to start the capital gains clock for um, you know, to hold the stock for a period of time so they can get long-term capital gains rates.
34:42
SPEAKER_02: That might be the reason why the employee might want to purchase the stock now, but since they don't have the cash and they can't easily get the cash by selling shares in the market, one way we might see that sort of get worked out is by the company providing a loan for the award.
34:59
SPEAKER_02: And uh sometimes that's to buy stock at the very beginning, sometimes it's to allow an employee to exercise their option uh along the way as well.
35:08
SPEAKER_02: Sometimes even before they vest in the award, they they they exercise the option early, and then maybe it's subject to some type of repurchase if they if they leave before they otherwise would vest in it.
35:20
SPEAKER_02: So when we have these, probably the most critical question, first question to answer, at least for accounting purposes, is whether that loan to the employee is considered a recourse loan or a non-recourse loan.
35:35
SPEAKER_02: So what's the difference between those?
35:38
SPEAKER_02: So a recourse loan is one that allows the lender, which in this case is the company, is lending money to the employee, to go after any and all assets of the employee, who's the borrower here, in order to collect it.
35:54
SPEAKER_02: So that means if the employee doesn't repay the loan, at least under the terms of the agreement, the company would be entitled to go after the employee's other assets, you know, their bank accounts, their house, their cars, whatever, in order to get paid.
36:08
SPEAKER_02: And then on the other end of the spectrum is a non-recourse loan, meaning it's not collateralized by anything, and it doesn't provide the company with any recourse to go after the assets of the employee other than those underlying shares themselves.
36:24
SPEAKER_02: So the company could take back the shares that you purchased with the stock, but they can't go after you for anything else.
36:30
SPEAKER_02: But we also find that while there's sort of recourse on one end of the spectrum, there's accounting guidance for that, and there's non-recourse on the other end of the spectrum, there's accounting guidance for that, that a lot of times in practice there are loans that are in between.
36:44
SPEAKER_02: They're considered partial recourse, or they're only recourse for a portion of the total total loan balance and non-recourse for the rest of it.
36:55
SPEAKER_02: And sometimes that can work for tax purposes, and a lot of these are driven by tax purposes, as I said, to get the capital gains holding clock going.
37:04
SPEAKER_02: So the tax rules may you will may allow you, depending on the circumstances, to only be partial recourse for the loan and still be okay.
37:13
SPEAKER_02: But unfortunately, the accounting guidance that we have says that when you evaluate these basically in all these partial recourse loan situations, you have to account for them like non-recourse loans.
37:26
SPEAKER_02: And so that is where we tend to find most of our clients to land in.
37:30
SPEAKER_03: All right.
37:31
SPEAKER_03: And definitely we'll get into the accounting in a moment.
37:34
SPEAKER_03: I guess, Jay, it's interesting though, because it's hard for me to imagine that employers want to get into a situation where they're pursuing their employees' assets that just seems like a bad idea all the way around.
37:47
SPEAKER_03: Uh, but with all of that said, it sounds like there's really this is truly a case where looking at the details is going to make a huge difference.
37:55
SPEAKER_03: Um, and definitely not a case where you want to just generally understand what's going on, but you really need to focus on the loan documents.
38:04
SPEAKER_02: Yes and no.
38:04
SPEAKER_02: I mean, yes, you definitely want to start with the legal form in evaluating it, because if the documents say the loan is non-recourse or partial recourse, then it definitely is just non-recourse or partial recourse.
38:18
SPEAKER_02: But it doesn't necessarily go the same way in the other direction.
38:21
SPEAKER_02: So you do have to look at the substance of the arrangement as well.
38:27
SPEAKER_02: Um, so for instance, if the loan is legally structured as full recourse, meaning the company theoretically could go after those other assets, just that like you said, you know, you really do have to assess things like is the company really going to do that?
38:42
SPEAKER_02: You know, would they intend to go after an employee for those other assets?
38:47
SPEAKER_02: Have they gone after employees for other assets?
38:50
SPEAKER_02: Uh, you know, does the employee even have enough other assets, right?
38:53
SPEAKER_02: You know, maybe a senior executive with you know a fair amount of accumulated other assets, maybe it's a little bit easier to understand that they have some money that could be paid.
39:04
SPEAKER_02: But if you're talking about a lower level person who maybe doesn't have as much money or as high of a salary or reasonably that they have other assets, maybe that's harder to say that we're gonna go after that mid-level person for a million-dollar loan when we know he or she doesn't make all that much money, or things like that.
39:24
SPEAKER_02: So all of those come into play.
39:26
SPEAKER_02: And of course, if you have any historical precedent of whether you have or haven't gone after somebody or said, eh, don't worry about it, we're just gonna change it into a non-recourse loan and not go after it.
39:37
SPEAKER_02: All of that could certainly put pressure on whether something is really recourse in substance or not.
39:43
SPEAKER_02: And that being said, that doesn't mean you can't have it.
39:45
SPEAKER_02: We do see it out there, but I agree with your point that you do have to look pretty carefully at it because you're basically trying to evaluate, you're trying to call something a full recourse loan, it's almost like saying the employee went to the bank and got a loan, right?
39:58
SPEAKER_02: Went to a real bank, whether it got a real loan, and most banks aren't going to write non-recourse loans for things.
40:04
SPEAKER_02: And so you're trying as best as you can to try to assess: hey, is this a circumstance where in these facts and circumstances the bank would have given this employee the same loan as I'm giving them?
40:17
SPEAKER_02: Uh, and that's a tough judgment.
40:18
SPEAKER_02: I I agree with that.
40:19
SPEAKER_02: That is a tough judgment that we run into a lot.
40:22
SPEAKER_03: All right.
40:22
SPEAKER_03: Well, with that then, is sort of our, let's say, landscape here, that even if it is uh recourse in the loan documents, maybe hard to get there.
40:32
SPEAKER_03: And I can truly see how that would be very difficult.
40:36
SPEAKER_03: Then from an accounting perspective, what does this all mean?
40:40
SPEAKER_03: What's the difference depending on the conclusion that you reach there?
40:44
SPEAKER_01: Well, let's uh let's start with the easier, which is if it counts as a real recourse loan, as Jay said, then uh we're treating it as a real loan and a real sale of shares to the employee.
40:59
SPEAKER_01: Uh and so any distributions on those shares are treated as real distributions and you know debits to retained earnings.
41:08
SPEAKER_01: Uh we've got a real loan from the employee, although there is some gap that would uh that would tell us that if we're if we've got a loan that was made uh to buy shares, then we shouldn't show that as an asset.
41:21
SPEAKER_01: So we're gonna treat that loan as contra equity, um, but still treat it as a real loan.
41:27
SPEAKER_01: Um and then the only real nuance that we sometimes find is that if the uh if the loan doesn't require a market rate of interest to be paid by the employee, then we might have some compensation just because, you know, as as Jay said, if they were to go to a bank and take out a loan, maybe we'd expect them to be paying, I don't know, 7% interest, but the the company makes the loan to the employee for 3% or 2%, or sometimes we see 0%.
41:56
SPEAKER_01: Uh, then the difference there, we would say, okay, that's uh that's a benefit to the employee.
42:01
SPEAKER_01: They couldn't have gotten that if they went in when gotten this uh from the bank, and therefore that element would be compensation expense.
42:09
SPEAKER_01: But otherwise, relatively straightforward.
42:12
SPEAKER_01: So where it gets a little trickier is with the non-recourse loans, and this is where um much of the confusion comes because it's still called a loan, and many companies, when they're entering one of these with the employees, they they think of it as a loan.
42:30
SPEAKER_01: But for accounting purposes, we definitely don't think of it as a loan.
42:35
SPEAKER_01: So the substance of what's happening leads to the accounting.
42:40
SPEAKER_01: So let's think about the substance.
42:42
SPEAKER_01: I uh and and let's just use a super simple transaction.
42:46
SPEAKER_01: So I lend you a hundred dollars to buy some stock of the company and it's non-recourse.
42:54
SPEAKER_01: So now you've got those shares of stock and you've got a hundred dollar loan to pay off to the company.
43:00
SPEAKER_01: So if the stock price goes up, then I'll just pay off my loan, and now I've got a share of stock.
43:09
SPEAKER_01: You know, maybe the stock price went up to$130, I pay$100 to settle the loan, and now I've got stock worth$130.
43:16
SPEAKER_01: That was a good deal.
43:18
SPEAKER_01: But if the stock price goes down, let's say the stock price goes to$70, I may simply say, Well, I'm not paying off this loan of$100 to get stock that's worth$70, and it's non-recourse, so you're not gonna come after my house or my boat or anything else.
43:33
SPEAKER_01: So I'm just gonna default on my loan and you can take your shares back.
43:37
SPEAKER_01: The only recourse is to the shares themselves.
43:40
SPEAKER_01: So that is operating just like a stock option, right?
43:46
SPEAKER_01: I have the opportunity to buy stock for$100, and if the stock price goes up, I'll buy it.
43:52
SPEAKER_01: And if the stock price doesn't go up, I just won't it it is acting like a stock option, and so the accounting guidance says treat it like A stock option for accounting purposes.
44:02
SPEAKER_01: And that's what we do.
44:03
SPEAKER_01: So even though it's papered up as a loan, we say there is no loan at all.
44:07
SPEAKER_01: And all that's happened is the company has granted the employee an option to purchase those shares at$100, in my example.
44:16
SPEAKER_01: And so the accounting would follow that.
44:18
SPEAKER_01: And in this example, we'd say there's an option and measure the fair value of a$100 option.
44:23
SPEAKER_01: And then if there's a service period required, spread it over the service period.
44:27
SPEAKER_01: A lot of times with these arrangements, there's no service required.
44:31
SPEAKER_01: And that's actually another sleeper issue that we see where there might be a loan term.
44:37
SPEAKER_01: Maybe the loan has to be paid off by the end of five years.
44:40
SPEAKER_01: And so some companies will say, okay, well, five years maybe is the period I should spread the expense over.
44:45
SPEAKER_01: That five years is not the vesting period because the person, if they wanted to, they could pay off the loan tomorrow in a lot of these situations.
44:55
SPEAKER_01: So it's as if they've got a vested stock option from day one, and then they're just deciding if they want to exercise it.
45:00
SPEAKER_01: So if that was right, if that was the case, we would just recognize all the expense on day one.
45:05
SPEAKER_01: There is no service required.
45:06
SPEAKER_01: There is no vesting period.
45:09
SPEAKER_02: In that case, the five-year term of the note may actually act more like the legal life of the option, right?
45:16
SPEAKER_02: They get five years to figure out if they want to pay it off or not.
45:19
SPEAKER_02: And then at that point, you kind of have to make a decision and either you you do pay it off or you're or it expires.
45:24
SPEAKER_02: So it's in that case, the five years is more like the legal life of the option.
45:28
SPEAKER_02: Then you use that to figure out your expected term as part of the valuation of that option.
45:33
SPEAKER_02: Right.
45:34
SPEAKER_01: It's a little bit complicated to think through because the companies say, Well, well, then where do I record the the note on day one?
45:39
SPEAKER_01: And the answer is there is no note.
45:42
SPEAKER_01: This thing in substance is just a stock option.
45:45
SPEAKER_01: So there's nothing, there is no note, there's nothing to record.
45:48
SPEAKER_01: It's just a stock option and follow the 718 rules for accounting for a stock option.
45:52
SPEAKER_02: Yeah, because in most of these notes, it's not like cash actually changed hands.
45:57
SPEAKER_02: It's more of a book entry.
45:58
SPEAKER_02: It wasn't like the company gave cash to the employee and the employee gave the cash back to the company.
46:04
SPEAKER_02: It's more of just sign the note and the shares get issued in book form.
46:08
SPEAKER_02: So it's more of just book entry than it is actual cash movement.
46:12
SPEAKER_03: Although I assume there's some disclosure.
46:14
SPEAKER_03: We don't have to get into the disclosure, but I would presume, even if there's no accounting, you need to do some disclosure in this case.
46:20
SPEAKER_01: For sure.
46:21
SPEAKER_01: And it it's um, well, first of all, because it's a 718 option, we'd need to do kind of normal 718 disclosures for an option.
46:27
SPEAKER_01: But in addition to that, we'd probably also mention some narrative about the fact that this option represented a non-recourse note that was issued to the employee and that kind of thing.
46:36
SPEAKER_03: All right, very helpful.
46:38
SPEAKER_03: So definitely a lot to think about.
46:39
SPEAKER_03: And I know I've been closing these with asking for some parting thoughts, but I actually have a different question today for you, Jay.
46:47
SPEAKER_03: And um, and then of course we have to get to our stump the guests.
46:51
SPEAKER_03: So, Jay, you mentioned early on in here in the task force that was talking about the valuation of privately held company equity securities issued as compensation, uh, so as the so-called cheap stock guide.
47:03
SPEAKER_03: And I think that's something that actually may be of interest to some of our listeners that might be not as familiar with some of these AI CPA task forces.
47:12
SPEAKER_03: So, not to get into tons of detail, but could you just give a quick summary of what that really is, who would be involved and sort of what the process would be?
47:21
SPEAKER_03: Um, again, thinking that some people may be less familiar.
47:24
SPEAKER_02: So, Heather, that AICPA guide is a practice aid that is designed to help companies and their valuation firms that they might hire and auditors of those uh companies to think about uh practices when they're valuing their stocks.
47:45
SPEAKER_02: It's you can't, as you said before, you can't just look up the stock price of a private company, but it's an important part of figuring out the fair value ultimately of any stock awards that you issue.
47:57
SPEAKER_02: You need to be able to come up with a fair value.
47:59
SPEAKER_02: There's no explicit guidance about how to do that.
48:04
SPEAKER_02: You have to make a lot of reasonable judgments about different valuation techniques and considerations.
48:09
SPEAKER_02: And this guide is designed to try to provide some frames of reference and best practices for that.
48:14
SPEAKER_02: As time has evolved and you know, things have been going on in the marketplace and the like, you know, that guide gets looked at periodically.
48:23
SPEAKER_02: And so we are in the midst of updating that guide right now.
48:27
SPEAKER_02: And so when that guide gets updated, or anytime these guys get looked at, there's a task force that is a mixture of representatives from the accounting firms, representative in this case from the valuation firm community, both larger and smaller valuation firms, representatives of some corporate or private company entities andor PE type entities that make investments in these companies, and even some investors as well, you know, to get a broad cross-section of perspective on whatever issues it are that we're talking about, and you know, how people think about valuation coming at it from different angles and different directions to try to coalesce on what is reasonable practice that people might want to try to uh try to follow.
49:18
SPEAKER_02: So we've been working on that.
49:19
SPEAKER_02: And as I said, I happen to be our representative to that task force, and we have been working on that for a little while.
49:27
SPEAKER_02: The first couple of chapters that we hope to be able to issue for public comment uh to the broader community, we hope to be able to do sometime later on this calendar year, kind of working through the process of a review around that.
49:43
SPEAKER_02: Uh, they'll probably come out in a couple of phases, maybe one or phase to initially talk about the impact of sort of third-party sales of common stock and maybe how you think of those when you're weighing that together with your own valuation models, uh, as well as some of the accounting that applies that we've talked about in some of these podcasts here.
50:05
SPEAKER_02: And then there'll probably be another round of updates, perhaps in the next year or so, that really get into the actual valuation models themselves and some sort of evolution of best practice that uh the valuation community has been seeing.
50:21
SPEAKER_03: All right, very helpful and definitely something for companies in that are dealing with these, definitely something for them to look out for.
50:28
SPEAKER_03: So thank you for that background on that.
50:30
SPEAKER_03: And then, Ken, since you've given some advice and some of these other ones, maybe for today, we'll just stick to where people should go look for more information.
50:40
SPEAKER_01: Uh sure.
50:41
SPEAKER_01: So I've I've mentioned a couple times in the in the episode that our stock compensation guide deals with a lot of private company issues that we just talked about here.
50:50
SPEAKER_01: So go check that out.
50:51
SPEAKER_01: Uh and you mentioned at the top that we've uh we've done a number of, well, clearly we've done a number of podcasts in the series, and there are uh there are a variety of private company issues uh throughout those podcasts as well.
51:05
SPEAKER_03: Perfect.
51:06
SPEAKER_03: All right, so now to the best part stump the guests.
51:10
SPEAKER_03: Um and I think our track record for this month is pretty good.
51:13
SPEAKER_03: So let's see how we can do with the with these next two.
51:16
SPEAKER_03: So we talked, I think last time about sort of the the introduction of stock options, and we're building on that.
51:25
SPEAKER_03: So the rise in stock options for the country's wealthy executives in the 1960s was a contributing factor for federal lawmakers' adoption of which tax law.
51:37
SPEAKER_03: And you could maybe just give a general sense if you have any idea of what they may have done in response to that.
51:44
SPEAKER_03: Any ideas?
51:47
SPEAKER_03: Kind of timely with some of what we're seeing right now, actually.
51:51
SPEAKER_02: Interesting.
51:52
SPEAKER_02: So again, maybe this is like our last one.
51:56
SPEAKER_02: I'm not sure I know the names of whatever tax acts were were put in.
52:01
SPEAKER_02: There was one in 1986, and I don't remember the name of that one, but it probably had some lengthy name to it.
52:07
SPEAKER_02: But it it probably introduced some of again the tax code sections that we see our clients run into a lot, both with 409A, which um you know impose certain restrictions on how much can go into ordinary income versus how much can go into capital gains and limit some of what companies can do.
52:25
SPEAKER_02: So I'm I'm gonna try to tie it all together to those couple of things.
52:29
SPEAKER_03: All right.
52:30
SPEAKER_03: I think I may have misdirected you, but do you want to make a guess, Ken, or should I just share the very interesting answer?
52:36
SPEAKER_01: I can't wait to hear the answer.
52:38
SPEAKER_03: All right.
52:39
SPEAKER_03: So I was my my misdirection was because right now we're talking about the corporate book minimum tax.
52:46
SPEAKER_03: So I was implying it was corporate, but in fact, this was an alternative minimum tax for individuals.
52:52
SPEAKER_03: And that was adopted in 1969 with the hope that more wealthy individuals and executives would pay more taxes.
53:00
SPEAKER_03: And that was after Congress noticed that 155 very high income individuals legally avoided paying any federal taxes at all.
53:10
SPEAKER_03: So more than 50 years ago, that was introduced.
53:14
SPEAKER_03: Definitely a stumper.
53:15
SPEAKER_03: So, yes, we're going into the esoteric uh aspects of stock compensation, but definitely very interesting.
53:22
SPEAKER_03: Um, so one more, this one also esoteric, and we can jump straight to the answer if you guys would like.
53:27
SPEAKER_03: But I also think it's interesting.
53:30
SPEAKER_03: So after the increase in popularity in the 1950s and 60s, stock options were still found almost exclusively in high-level executive comp packages and have not trickled down to let's call it middle managers and quote, ordinary employees.
53:46
SPEAKER_03: Any guesses on the name of the group of company founders in Silicon Valley that popularized employee stock options for all employees?
53:58
SPEAKER_02: Well, since I stuck my neck out in the last one, I'll let you go first.
54:02
SPEAKER_03: I I warned you guys that this one was probably not one you could guess at.
54:07
SPEAKER_01: Yeah, I remember.
54:08
SPEAKER_01: I'm pretty sure it was called the Big Shot Equity Council.
54:11
SPEAKER_03: Uh no.
54:13
SPEAKER_03: Although maybe that was an alternative name for it.
54:16
SPEAKER_01: That was it.
54:17
SPEAKER_03: Um so this this was a group called the quote Fair Children.
54:23
SPEAKER_03: And in 1957, a group of eight engineers quit their jobs and launched the startup Fairchild Semiconductor.
54:30
SPEAKER_03: The group was precluded from offering stock options to their employees by their parent company.
54:36
SPEAKER_03: So they all eventually left Fairchild Semiconductor to launch their own startups, and that's when employee stock options became more broadly available for other employees.
54:47
SPEAKER_03: And that would have included companies like Intel and AMD that were founded by these fair children.
54:55
SPEAKER_03: So, like I said, not possible to guess, but I still thought interesting enough to warrant discussion.
55:00
SPEAKER_03: So, Ken and Jay, as always, appreciate your insight as well as your good humor in uh attempting at least to answer these questions.
55:09
SPEAKER_03: So, thanks again for joining me today.
55:11
SPEAKER_03: Thank you, Heather.
55:12
SPEAKER_02: All right, thanks.
55:13
SPEAKER_03: That's our show for today.
55:15
SPEAKER_03: We have another industry-specific ESG episode for you tomorrow.
55:19
SPEAKER_03: And then just a reminder that our Thursday episodes are on hiatus for the rest of August.
55:25
SPEAKER_03: But we'll be back next Tuesday as we continue the Stock Comp series with a discussion of the effects of merger and acquisition activity on existing stock comp arrangements.
55:36
SPEAKER_03: So that you never miss any of our audio content, follow the PWC Accounting Podcast series wherever you listen to your podcast.
55:44
SPEAKER_03: And to stay up to date on all our latest accounting and reporting news, sign up for our newsletter at viewpoint.pwc.com.
55:53
SPEAKER_03: From thought leadership at PWC, I'm Heather Horn.
55:57
SPEAKER_03: Thanks for tuning in.
56:06
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