ASC 718 vs IFRS 2 award modifications: repricing and incremental fair value
When a company changes the terms of an outstanding stock option or restricted stock award, both ASC 718 and IFRS 2 treat the change as an exchange of the original award for a new one, and both charge the employee's gain as additional compensation cost. In the common case of an option repricing where the award was always expected to vest, the two frameworks produce the same answer: the company keeps recognizing the original grant-date fair value and adds the incremental fair value, measured on the modification date, over the remaining service period.
The frameworks part ways when the original award was not expected to vest. Under US GAAP, an award that moves from improbable to probable vesting is measured at its fair value on the modification date, and the original grant-date fair value drops out. Under IFRS 2, the original grant-date fair value stays as a minimum once the modified conditions are met. With a falling share price the US GAAP number is lower, and in the second worked example below the gap is $60,000 on a single grant of 5,000 restricted stock units.
Repricings and modifications come up most often after a share price decline leaves options far out of the money, in a restructuring that accelerates vesting for departing staff, after a missed performance target that the board decides to reset, and in a transaction that converts awards from cash settlement to share settlement. Each of those situations triggers the same core test, and each has its own measurement consequences.
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WHEN ASC 718 REQUIRES MODIFICATION ACCOUNTING.
ASC 718 starts from a broad presumption: any change to the terms or conditions of a share-based payment award is a modification. ASU 2017-09, Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting, narrowed that presumption with a three-part test now in paragraph 718-20-35-2A. A company does not apply modification accounting only when all three conditions hold. The fair value of the modified award (or its calculated value or intrinsic value, where one of those alternative methods is used) equals the fair value of the original award immediately before the modification. The vesting conditions are the same as those of the original award immediately before the modification. The classification as an equity instrument or a liability instrument is the same as before.
The test is mechanical and leaves little room for judgement once the facts are known. An administrative change, such as a new plan administrator or a change to the net-settlement mechanics that does not move fair value or classification, normally passes all three conditions. A repricing fails the fair value condition. A change from a four-year to a three-year vesting schedule fails the vesting condition even if fair value is unchanged. A change that lets employees settle in cash fails the classification condition. The amendments apply prospectively to modifications on or after the effective date, which was annual periods beginning after December 15, 2017, so every current modification is assessed under this test.
When modification accounting applies, paragraph 718-20-35-3(a) measures incremental compensation cost as the excess, if any, of the fair value of the modified award over the fair value of the original award immediately before its terms are modified, both measured using the share price and other pertinent factors at that date. The original award is valued on the modification date, with its existing terms and the current share price, and is not taken at its old grant-date value.
US GAAP then classifies the effect by reference to the probability of vesting before and after the change. For a probable-to-probable modification, the company recognizes the remaining unrecognized grant-date cost plus the incremental cost. For an improbable-to-probable modification, the original award was not expected to vest, so the cumulative cost of the original award is zero and the company recognizes the full modification-date fair value of the modified award. A probable-to-improbable change is rare in practice, and in that case the company continues to recognize at least the original grant-date fair value if the original conditions would have been met. In an improbable-to-improbable change, cost is recognized only if the modified award eventually vests, based on its modification-date fair value.
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HOW IFRS 2 MEASURES MODIFICATIONS AND CANCELLATIONS.
IFRS 2 builds modification accounting on a floor. Paragraph 27 and paragraph B42 require the entity to recognize, as a minimum, the services received measured at the grant-date fair value of the equity instruments granted, unless those instruments do not vest because of a failure to meet a non-market vesting condition specified at grant. The floor applies irrespective of any modification, cancellation or settlement.
Paragraph B43 deals with changes that benefit the employee. Where a modification increases the fair value of the instruments, for example by reducing the exercise price, the incremental fair value is the difference between the fair value of the modified instrument and that of the original instrument, both estimated at the date of the modification. The incremental amount is recognized from the modification date until vesting, in addition to the original grant-date amount, which continues over the remainder of the original vesting period. If the modification happens after vesting, the incremental fair value is recognized immediately, or over any additional service period the employee must complete. Where the modification grants additional instruments, their fair value at the modification date is added on the same basis. Where the vesting conditions change in the employee's favor, such as a shorter vesting period or a relaxed non-market performance condition, the entity applies the modified conditions.
Paragraph B44 deals with changes that do not benefit the employee. A decrease in fair value is ignored and the entity keeps measuring services at grant-date fair value. A reduction in the number of instruments is a cancellation of that portion of the grant under paragraph 28. A change in vesting conditions that is unfavorable to the employee, such as a longer vesting period or an added non-market performance condition, is not taken into account.
Paragraph 28 treats a cancellation or settlement during the vesting period as an acceleration of vesting: the entity recognizes immediately the amount that would otherwise have been recognized over the remaining vesting period. A payment to the employee on cancellation is a repurchase of an equity interest, charged to equity, except that any excess over the fair value of the instruments at the repurchase date is an expense. New instruments identified as replacements for cancelled ones are accounted for in the same way as a modification. A cancellation of an award without replacement produces a similar outcome under US GAAP, where any previously unrecognized compensation cost is recognized at the cancellation date.
A modification that changes a cash-settled award into an equity-settled one follows paragraphs B44A to B44C. From the modification date the transaction is measured at the fair value of the equity instruments granted at that date and recognized in equity to the extent services have been received, the liability is derecognized, and any difference between the liability derecognized and the amount recognized in equity goes to profit or loss immediately. Under US GAAP, the same change fails the classification condition in paragraph 718-20-35-2A, so modification accounting applies and the award is measured as an equity instrument from the modification date.
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AWARD MODIFICATIONS: ASC 718 VS IFRS 2 COMPARISON.
The treatment of graded vesting under ASC 718 and IFRS 2 already differs, and modifications add further differences that compound on top of it. The table summarizes the main points.
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Issue | ASC 718 | IFRS 2 |
Scope test | Three conditions in 718-20-35-2A | No scope test; any change assessed |
Incremental cost | Modified FV less original FV at modification date | Same measure (B43(a)) |
Decrease in fair value | No reduction below grant-date cost if vesting probable | Ignored (B44(a)) |
Improbable to probable | Modification-date FV of modified award only | Grant-date FV floor plus any incremental FV |
Unfavorable vesting change | Modified award assessed for vesting | Ignored (B44(c)) |
Cancellation, no replacement | Unrecognized cost recognized at once | Accelerated vesting (para 28) |
Cash to equity settlement | Modification accounting applies | B44A to B44C; difference to profit or loss |
Forfeitures | Estimate or account as they occur | Estimate required |
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The improbable-to-probable row is the one that changes reported numbers the most. US GAAP looks only at what the company gave up on the modification date, which, for an award not expected to vest, has no recognized cost. IFRS 2 treats non-market performance conditions as affecting the number of instruments expected to vest and never their fair value, so once the relaxed condition is met the original grant-date fair value is recognized and any extra value from the change is added.
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WORKED EXAMPLE: OPTION REPRICING UNDER ASC 718 AND IFRS 2.
The figures are illustrative. On January 1, 2025 a company grants 10,000 stock options to employees with four-year cliff vesting. The grant-date fair value is $12.00 per option, so total grant-date cost is $120,000, or $30,000 a year. The company expects all employees to stay to the vesting date and no forfeitures occur. Awards with market conditions need a different valuation approach, set out in our article on how share-based payments with market conditions are valued under IFRS 2 and ASC 718; here only a service condition applies.
On January 1, 2027, after $60,000 has been recognized for 2025 and 2026, the share price has fallen and the board lowers the exercise price. Immediately before the repricing, the original options have a fair value of $3.00 each. The repriced options have a fair value of $5.50 each. The vesting date stays at December 31, 2028.
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Item | Amount |
Original grant-date cost (10,000 x $12.00) | $120,000 |
Cost recognized 2025 and 2026 | $60,000 |
Fair value per option before repricing | $3.00 |
Fair value per option after repricing | $5.50 |
Incremental cost (10,000 x $2.50) | $25,000 |
Annual cost 2027 and 2028 ($30,000 + $12,500) | $42,500 |
Total cost over vesting period | $145,000 |
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The award fails the fair value condition in paragraph 718-20-35-2A, so ASC 718 requires modification accounting, and vesting was probable both before and after the change. IFRS 2 paragraph B43(a) gives the same measure. Under both frameworks the company recognizes the remaining $60,000 of grant-date cost and the $25,000 incremental cost over the two remaining years. The entries for each year are below. Under US GAAP the credit is to additional paid-in capital; under IFRS it is to an equity reserve for share-based payments (entity-specific title). Deferred tax effects are excluded.
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Year | Account | Debit | Credit |
2025 | Compensation expense | $30,000 | |
2025 | APIC / share-based payment reserve | $30,000 | |
2026 | Compensation expense | $30,000 | |
2026 | APIC / share-based payment reserve | $30,000 | |
2027 | Compensation expense | $42,500 | |
2027 | APIC / share-based payment reserve | $42,500 | |
2028 | Compensation expense | $42,500 | |
2028 | APIC / share-based payment reserve | $42,500 | |
Total | $145,000 | $145,000 |
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A second illustrative case shows the divergence. On January 1, 2025 a company grants 5,000 restricted stock units that vest on December 31, 2027 if a cumulative revenue target is met. The grant-date fair value is $20.00 per unit, or $100,000 in total. From grant, the company judges the target improbable and recognizes no cost. On January 1, 2027 the board lowers the target, which becomes probable, and the share price is $8.00. The units are worth $8.00 each both before and after the change, because a non-market performance condition does not affect fair value.
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Measure | ASC 718 | IFRS 2 |
Basis | Modification-date FV of modified award | Grant-date FV floor (B42, B43(c)) |
Per unit | $8.00 | $20.00 |
Incremental fair value | Not applicable | $0 ($8.00 less $8.00) |
Total cost recognized by December 31, 2027 | $40,000 | $100,000 |
Expense in 2027 | $40,000 | $100,000 |
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The 2027 entry is a debit to compensation expense and a credit to equity of $40,000 under US GAAP and $100,000 under IFRS. The $60,000 difference is permanent: it does not reverse in a later period.
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PRESENTATION AND DISCLOSURE OF MODIFIED SHARE-BASED PAYMENT AWARDS.
Incremental cost is presented in the same income statement lines as the original award cost, following the employees' function, as described in our article on how stock-based compensation expense is reported in the income statement. No separate line is required for modification cost.
IFRS 2 paragraph 45(c) requires an explanation of arrangements modified during the period, and paragraph 47(c) requires disclosure of the incremental fair value granted as a result of those modifications and how it was measured. ASC 718 requires a description of significant modifications, including the terms of the modifications, the number of grantees affected and the total incremental compensation cost. In both frameworks the valuation inputs used for the before-and-after fair values should be consistent with those disclosed for new grants, and a company that reprices underwater options usually discusses the event in its compensation narrative as well as in the notes.
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COMMON ERRORS IN SHARE-BASED PAYMENT MODIFICATION ACCOUNTING.
The most frequent error is measuring incremental cost against the original grant-date fair value instead of the fair value of the original award immediately before the modification. In the repricing example, comparing $5.50 with the $12.00 grant-date value would show no incremental cost at all, while the correct comparison against $3.00 gives $25,000.
A second error is applying the US GAAP improbable-to-probable logic in IFRS financial statements, or the reverse. Groups that report under both frameworks, or US subsidiaries of IFRS parents, need two calculations for performance awards that are reset after a target becomes unreachable.
A third area is the scope test under ASU 2017-09. Changes that look administrative can alter fair value, for example a change in the exercise window or in net-settlement features, and a company that skips the valuation cannot show that the fair value condition is met. The opposite error also occurs: treating every amendment as a modification and remeasuring awards that pass all three conditions.
Other judgement areas include whether a new grant made close to a cancellation is a replacement award, which under paragraph 28 of IFRS 2 brings modification accounting, and the effect of accelerated vesting in a restructuring, where the interaction with severance terms needs separate analysis. For the general framework behind these rules, our overview of how share-based payment transactions are accounted for under IFRS 2 and ASC 718 covers equity and cash settlement at grant.
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PRACTICAL CHECKLIST FOR A STOCK OPTION REPRICING OR AWARD MODIFICATION.
Before the board approves a change, obtain a valuation of the original award immediately before the change and of the modified award at the same date, using the same model and inputs apart from the changed terms.
Run the three conditions in paragraph 718-20-35-2A and document the result even when modification accounting is not required.
Classify the vesting probability before and after the change under US GAAP, and under IFRS identify whether the change is favorable or unfavorable to the employee under paragraphs B43 and B44.
Recompute the remaining expense schedule: unrecognized grant-date cost plus incremental cost over the remaining service period, or the modification-date fair value for an improbable-to-probable change under US GAAP.
Update the deferred tax calculation, the equity roll-forward and the disclosure of incremental fair value, and record the number of grantees affected.
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ASC 718 AND IFRS 2 MODIFICATIONS: WHERE THE NUMBERS DIVERGE.
For a straightforward repricing of options that are expected to vest, ASC 718 and IFRS 2 give the same result: grant-date cost continues and the incremental fair value at the modification date is added over the remaining service period. Cancellations without replacement accelerate the remaining cost under both frameworks.
The figures diverge in three places: the US GAAP scope test, which exempts changes that leave fair value, vesting conditions and classification unchanged; the improbable-to-probable case, where US GAAP uses only the modification-date fair value and IFRS 2 keeps the grant-date floor; and the handling of forfeitures, which IFRS 2 always estimates. The valuation of the original award immediately before the change, the probability assessment of performance targets and the identification of replacement awards remain judgements that depend on the facts of each grant.
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