Stock option compensation

Abstract

PurposeThe purpose of this paper is to examine the impact on selected financial performance indicators of Indian firms adopting employee stock option (ESO) schemes, if they recognize expenses and adopting fair‐value method of accounting pursuant to International Financial Reporting Standard (IFRS) 2.Design/methodology/approachThe CMIE Prowess database was searched for Indian firms having stock option schemes and issue of shares pursuant to that scheme during the years ended 31 March 2007 and 31 March 2008. The data on financial performance were hand picked from the annual report of the sample companies. The impact of expense recognition on financial performance indicators were computed by using memorandum disclosures in directors' reports on use of fair value methods for ESO accounting. A non‐parametric Kruskal‐Wallis test was employed to find out the statistical significance of the impact. The role of firm growth characteristics on impact of expense recognition was also investigated.FindingsThe impact of recognizing expenses associated with stock option compensation varies considerably by entity and such recognition would have a material impact on key performance measure for at least 22 percent of the sample companies. Contrary to expectation, firm growth characteristics were found to have no statistical significance in explaining impact of expense recognition.Research limitations/implicationsThe sample is restricted to India and may not be reflective of other countries. Also, this study considers the impact of expense recognition as if the requirements of IFRS 2 were adopted in 2006‐2007/2007‐2008 financial year and accordingly, may not be reflective of the situation that may prevail in 2011 when transition to IFRS set of standards will be applicable to Indian companies, as those entities may have altered their compensation contracts.Practical implicationsIndian firms will be required to prepare financial statements based on IFRS set of standards w.e.f. April 2011. IFRS 2, share‐based payments is not yet adopted in India. Overall, the significance of accounting changes associated with the adoption of IFRS 2 may not be very alarming for Indian companies with ESO schemes.Originality/valueThis study attempts to enrich empirical research in the field and provides an insight into the potential contractual and valuation implication of the adoption of one of the IFRS set of standards on Indian firms and also provides contrary evidence of the role of growth characteristics in explaining the impact of expense recognition.