Valuation of Share-Based Payments
Grant of shares or share options to employees and directors is a common feature with most companies and is known as “share-based payments”. There are three main categories of share-based payment transactions within the scope of IFRS 2:
- equity-settled share-based payment transactions,
- cash-settled share-based payment transactions,
- share-based payment transactions with cash alternatives.
The key consideration in share-based payment transactions is the valuation of the equity component, initial recognition of such transactions, and the allocation of the cost of goods/services over accounting periods.
Employee Stock Option Plan (ESOP)
An Employee Stock Option Plan (ESOP) is a type of employee benefit plan that gives employees a share of the company’s ownership. ESOPs are issued as direct stock, profit-sharing plans or bonuses, and the employer has the sole discretion in deciding who could avail of these options. However, Employee stock ownership plans are just options that could be purchased at a specified price before the exercise date.
At the time of grant of option valuation of fair value of shares shall be done by Registered Valuer. At the time of exercise of option valuation shall be done by
Methods of Valuation of ESOP:
- Black Scholes Formula- This is the most commonly used method, and it’s best for small schemes with straightforward rules. The parameters here are share price (S), exercise price (K), volatility (sigma), duration till exercise (T), and the risk-free rate (r). The simplicity of this method is its primary benefit. The option price can be easily determined once the parameter values are known.
- Binomial Method- The binomial model is more complex and requires the application of statistical methods. The share price is projected using ‘up’ and ‘down’ probabilities from the date of grant to the date of exercise in this model.
- Monte Carlo Method. As with the Binomial Method, this method also involves projecting the share price. On the other hand, the forecasting of a share price is not constrained by predetermined up and down probabilities, the share price is now sampled from the selected share price distribution. The method entails projecting the share price under a variety of scenarios, each of which creates a specific path.
Sweat Equity Shares:
Sweat shares are offered to certain employees or directors of the company for the following reasons:
- Remarkable contribution and efforts of an employee or a director in completion of any project
- Technical expertise in the field
- Value addition to the company through extraordinary contribution and gaining intellectual property rights
The companies tend to offer sweat equity shares to the employees to attract and retain the talent who helps the company grow. When an employee has sweat equity shares, he or she can receive a part of the company’s profit as a return on their investment.
Sweat equity shares of unlisted companies shall be issued at a price determined by a registered valuer as the fair price giving justification for such valuation. Also, the value of the intellectual property or know-how or any other value additions, for which the sweat equity shares have been issued to its directors or employees shall be determined by a valuation report of a Registered Valuer.
If the sweat equity shares are issued for a non-cash consideration, the value of such non-cash consideration shall be based on a valuation report by a Registered Valuer. Additionally, if the sweat equity shares are issued pursuant to acquisition of an asset, the value of such asset shall also be determined based on a valuation report by a Registered Valuer.