PROBLEM 5 At the beginning of Year 1, an entity grants 15,000 share options with a ten-year life to each of ten senior executives. The share options will vest and become exercisable immediately if and...

At the beginning of Year 1, an entity grants 15,000 share options with a ten-year life to each of ten senior executives. The share options will vest and become exercisable immediately if and when the entity’s share price increases from P50 to P70, provided that the executives remains in service until the share price target is achieved.


The entity applies a binomial option pricing model, which takes into account the possibility that the target will be achieved during the ten-year life of the options and the possibility that the target will not be achieved. The entity estimates that the fair value of the share options at grant date is P25 per option. From the option pricing model, the entity determines that the mode of the distribution of possible vesting date is five years. In other words, of all the possible outcomes, the most likely outcome of the market condition is that the share price target will be achieved at the end of Year 5. Therefore, the entity estimates that the expected vesting period is five years. The entity also estimates that two executives will have left by the end of Year 5, and therefore expects that 80,000 share options will vest at the end of the Year 5.


Throughout Years 1 to 4, the entity continues to estimate that a total of two executives will leave by the end of Year 5. However, in total three executives leave, one in each of Years 3, 4 and 5. The share price target is achieved at the end of Year 6. Another executive leaves during Year 6, before the share price target is achieved.