Financial Modeling & Forecasting Flashcards

When modeling the expected term of employee stock options for Black-Scholes purposes, which SEC-approved simplified method is commonly used by companies without sufficient exercise history?

Answer: Average of vesting period and original contractual term

The SEC simplified method calculates expected term as the average of the vesting period and the full contractual term of the option.

A company uses a binomial lattice model to value stock options. Compared to Black-Scholes, a key advantage is the lattice model's ability to:

Answer: Incorporate early exercise behavior at each node

Lattice models evaluate early exercise decisions at each node, making them more accurate for American-style options where early exercise is possible.

For a performance share unit (PSU) tied to a non-market condition (e.g., EPS growth), compensation expense should be:

Answer: Adjusted each period based on the expected number of shares to vest

For non-market conditions, ASC 718 requires expense to be updated each period based on the probability-weighted estimate of shares expected to vest.

Which of the following best describes the 'expected dividend yield' input's effect in the Black-Scholes model?

Answer: Higher dividend yield decreases option value because dividends reduce the ex-dividend stock price

Dividends reduce the stock price on ex-dividend dates, lowering the expected future stock price and therefore decreasing call option value.

Under the modified retrospective approach allowed by ASU 2016-09 for excess tax benefits, these benefits are now recorded:

Answer: In income tax expense within the income statement

ASU 2016-09 requires excess tax benefits and deficiencies from share-based awards to be recognized in income tax expense in the income statement.

A stock option grant has a 4-year graded vesting schedule (25% per year). Under the graded vesting attribution method, expense in year 1 versus year 4 would be:

Answer: Higher in year 1 because more tranches are actively vesting

Under graded vesting attribution, year 1 is the heaviest because all four tranches are simultaneously being expensed; each subsequent year has fewer active tranches.

Which equity award type creates a potential book-tax timing difference requiring deferred tax accounting because the tax deduction occurs at vesting while book expense is recognized over the service period?

Answer: Restricted Stock Units (RSUs) at vesting

RSU book expense is recognized ratably over the vesting period, but the tax deduction equals the market value at vesting, creating a deferred tax asset during the vesting period.