EITF 96-18: Accounting for Non-Employee Equity Awards
Examine the historical framework for valuing non-employee equity awards, focusing on the core judgments that shaped the guidance before its codification.
The Financial Accounting Standards Board’s (FASB) Emerging Issues Task Force (EITF) issued guidance, EITF 96-18, to establish principles for measuring the value of equity instruments given to non-employees. Before this guidance, accounting for these transactions lacked uniformity, leading to inconsistent financial reporting. The principles of EITF 96-18 have since been absorbed into the FASB’s primary guidance, the Accounting Standards Codification (ASC).
Applicability of the Guidance
EITF 96-18 applied to transactions where a company exchanged its own equity for goods or services from a non-employee. The equity instruments covered by this guidance included common stock, stock options, and warrants. The defining characteristic was that the company was paying with its own equity rather than with cash.
The guidance specified that the counterparty must be a non-employee, a category that included independent contractors, consultants, and vendors. Transactions involving equity awards to employees were separate and covered by different accounting literature, now known as ASC 718.
The transaction’s purpose had to be the acquisition of goods or services for the company’s operations. The guidance did not apply to equity issued to raise capital from an investor or as part of a business combination.
Establishing the Measurement Date
EITF 96-18 focused on pinpointing the date on which to measure the fair value of the equity instruments. This “measurement date” was defined as the earlier of two possible events. This determination required judgment, was a source of complexity for companies, and could materially impact the expense or asset value recorded.
The first potential measurement date was when a “performance commitment” was reached. A performance commitment existed when the non-employee was obligated to perform the service or deliver the goods, and a large disincentive for nonperformance was in place. This disincentive had to be substantial enough to make performance probable, such as a large, non-refundable upfront payment or a penalty for failing to deliver.
If a performance commitment could not be established, the measurement date defaulted to the second event: the date the non-employee’s performance was complete. This approach often resulted in the value being remeasured at each reporting period until the vesting date, when performance was judged to be complete.
Measurement and Recognition Approach
EITF 96-18 required transactions to be measured at the fair value of the equity instruments issued or the fair value of the goods or services received, whichever was more reliably measurable. A value was considered more reliably measurable if supported by objective evidence, like a quoted market price. The guidance presumed the fair value of the equity instruments would be used unless the value of the goods or services was more clearly evident.
The value was then recognized in the financial statements in a manner consistent with a cash payment for the same transaction. An asset or an expense was debited, and equity was credited. For instance, if equity was issued for consulting services, the company would recognize compensation expense. If the equity was exchanged for an asset like a building, the asset would be recorded on the balance sheet and depreciated over its useful life.
Codification and Current Standards
The principles from EITF 96-18 are no longer in a separate document but have been integrated into the FASB Accounting Standards Codification, primarily under ASC 505-50, Equity-Based Payments to Non-Employees. For a time, ASC 505-50 preserved the distinct accounting model for non-employee awards.
Accounting Standards Update (ASU) 2018-07 eliminated the separate accounting model for non-employee awards. This update expanded the scope of ASC 718, the standard for employee stock compensation, to include non-employees, simplifying the accounting for similar transactions.
Under current standards, the accounting for non-employee and employee share-based payments is substantially aligned. The measurement date for non-employee equity awards is now the grant date, the same as for employees. This change removed the complex process of determining a measurement date based on performance commitments or completion dates that was part of EITF 96-18.