Connors Company has 70 executives to whom it grants compensatory share options on January 1, 2007. The plan grants each executive options to acquire a maximum of 100 shares of the company’s $5 par common stock at $50 per share after completing three years of continuous service. However, the number of options that vest depends on the increase in the company’s market share over the three-year period. The following schedule shows the number of options granted to each executive based on the increase in market share by the end of the service period:
Increase in Number of Share
Market Share Options Granted
0 to 4% …………………………… 40
5 to 8% …………………………… 60
More than 8% …………………….. 100
Based on past trends, on the grant date Connors predicts that its market share will increase about 3% by the end of 2009. At the end of 2008, due to improved market position over the previous two years, Connors revises this estimate to 7%. At the end of 2009, Connors determines that its market share has increased 9% over the three-year period.
On the grant date, Connors Company estimates that
(1) The fair value of each option is $16.25, and
(2) Its employee turnover rate will be 3% per year over the service period. At the end of 2008; because of increased resignations, Connors changes its estimated turnover rate to 5% for each year in the service period. At the end of 2009, 59 executives vest in the plan. On January 17, 2010, 30 executives exercise their options when the stock is selling for $68 per share.
Required
1. Prepare a schedule of the Connors Company’s compensation computations for its compensatory share option plan for 2007 through 2009 (round all computations to the nearest dollar).
2. Prepare the journal entries of Connors Company for 2007 through 2010 in regard to this plan.
3. Show how the account(s) related to the plan is (are) reported in the stockholders’ equity section of Connors Company’s balance sheet on December 31, 2008.
4. Do you see a problem with your answer to Requirement 3 and the eventual value of the vested stock options? How might this problem be avoided?