Walters Audio Visual, Inc. offers a stock option plan to its regional managers. On January 1, 2018, 45 million options were granted for 45 million $1 par common shares. The exercise price is the market price on the grant date, $10 per share. Options cannot be exercised prior to January 1, 2020, and expire December 31, 2024. The fair value of the options, estimated by an appropriate option pricing model, is $2 per option. Because the plan does not qualify as an incentive plan, Walters will receive a tax deduction upon exercise of the options equal to the excess of the market price at exercise over the exercise price. The income tax rate is 40%.
Required: 1. Determine the total compensation cost pertaining to the stock option plan.
2. to 4. Assume all of the options are exercised on March 20, 2023, when the market price is $14 per share. Prepare the necessary journal entries.
5. & 6. Assume the option plan qualifies as an incentive plan if all of the options are exercised on March 20, 2023, when the market price is $13 per share. Prepare the necessary journal entries.
1. Total compensation cost = 45 million *$2 = 90 Million
2 to 4 Expense to be recorded each year = Compensation Expense / Vesting period = $90,000,000/ 2 = $45,000,000
Date | General Journal | Debit | Credit |
December 31,2018 | Compensation expense | 45,000,000 | |
Paid in Capital Stock Options | 45,000,000 | ||
December 31,2018 | Deferred Tax Asset | 18,000,000 | |
Tax Expense | 18,000,000 | ||
[45,000,000*40%] | |||
December 31,2019 | Compensation expense | 45000000 | |
Paid in Capital Stock Options | 45000000 | ||
December 31,2019 | Deferred Tax Asset | 18000000 | |
Tax Expense | 18000000 | ||
[45,000,000*40%] | |||
March 20,2023 | Cash [$10* 45million] | 450000000 | |
Paid in Capital Stock options | 90000000 | ||
Common Stock [ $1*30million] | 45000000 | ||
Paid in Capital in excess of par | 495000000 | ||
[Exercise of options] | |||
March 20,2023 | Income Tax Payable | 72000000 | |
[$14-$10 ] *45million *40% | |||
Deferred Tax Asset | 36000000 | ||
[18million *2] | |||
Paid in Capital -tax effect of stock options | 36000000 |
5 to6:
Date | General Journal | Debit | Credit |
December 31,2018 | Compensation expense | 45000000 | |
Paid in Capital Stock Options | 45000000 | ||
December 31,2019 | Compensation expense | 45000000 | |
Paid in Capital Stock Options | 45000000 | ||
March 20,2023 | Cash [$10* 45million] | 450000000 | |
Paid in Capital Stock options | 90000000 | ||
Common Stock [ $1*45million] | 45000000 | ||
Paid in Capital in excess of par | 495000000 | ||
[Exercise of options] |
No tax effect if it is an incentive plan since it does not qualify for tax deduction.
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