Corp Fin's Financial Reporting Manual was updated today to reflect new guidance related to critical accounting estimate disclosures for share-based compensation in IPOs. (Section 9520) The update appears to formalize statements by Corp Fin director Keith Higgins at the San Diego Securities Conference.
In the Manual update, the staff acknowledges the complexity and subjectivity of estimates of fair value related to share-based compensation, given that the underlying shares are not publicly traded. In examining these estimates in an IPO prospectus, the staff will be looking for the following critical accounting estimate disclosures (which may be cross-referenced to the extent it is disclosed elsewhere in the prospectus, as may other related information):
- "The methods that management used to determine the fair value of the company's shares and the nature of the material assumptions involved. For example, companies using the income approach should disclose that this method involves estimating future cash flows and discounting those cash flows at an appropriate rate.
- The extent to which the estimates are considered highly complex and subjective.
- The estimates will not be necessary to determine the fair value of new awards once the underlying shares begin trading."
Expect comments where valuations appear unusual (e.g., unusually steep increases in the fair value of the underlying shares leading up to the IPO). The staff will want the response to analyze the reasons for the unusual valuations so that the staff can confirm the appropriate accounting for the share-based compensation, "not for the purpose of requesting changes to disclosure in the MD&A or elsewhere in the prospectus." The staff will also look for, as appropriate, MD&A disclosure related to share-based compensation, "including known trends or uncertainties including, but not limited to, the expected impact on operating results and taxes."