This document discusses employee compensation related to post-employment benefits and share-based compensation. It covers key topics such as defined benefit pension plans, other post-employment benefits, and accounting for stock options and stock grants. The main points are that employee compensation includes post-employment benefits like pensions which require actuarial assumptions and estimates that can impact reported financial performance, and share-based compensation is valued using option pricing models with the expense recognized over the vesting period.

1. 2015, Study Session # 6, Reading # 18
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“EMPLOYEE COMPENSATION: POST-
EMPLOYMENT AND SHARE-BASED”
1. INTRODUCTION
DR = Discount Rate
PVDBO = Present Value of the
Defined Benefit
Obligation
OPB = Other Post
Employment Benefits
VBO = Vested Benefit
Obligation
Post-Employment Benefits
Examples:
Pension
Other post employment benefits.
Share-Based Compensation
Examples:
Stock options.
Stock grants.
Aspects of Employee Compensation
Value of employee compensation is difficult to determine due to various factors (e.g.
benefits are earned during service period and paid after service.
DC = Defined Contribution
DB = Defined Benefits
BS = Balance Sheet
FV = Fair Value
ABO = Accumulated Benefit
Obligation
2. PENSION AND OTHER POST-EMPLOYMENT BENEFITS
Assumptions required estimating & recognizing future
benefits can have a significant impact on the
company’s reported performance & financial position.
Comparability across companies may be affected due
to difference in assumptions.
2.1 Types of Post-Employment Benefits Plans
Specific contributions by employer.
Investment risk is borne by employee.
The agreed upon amount is pension
expense.
Employees may also contribute to the
plan.
Plan impact on company’s financial
statements can be easily assessed.
DC Pension Plans
These include life insurance premiums &
health care insurance.
OPB are typically classified as DB plans
but more complex reporting
requirement.
Future benefit depends on plan
specifications & types of benefit.
Companies typically do not prefund OPB.
Other Post-Employment Benefits
Employer promises to pay a defined
amount of pension in the future.
Future pension payments represent a
liability of the sponsoring company.
Various actual assumptions &
computations are required to measure
pension obligation.
Multi-employer plans (IFRS only) ⇒ plans
to which many different employers
contribute on behalf of their employees
(e.g. industry association pension plan).
Overfunded (underfunded) plan ⇒
pension assets > (<) pension liabilities.
Sponsor bears the investment risk.
DB Pension Plans
Types of Post Employment Benefits Plans

2. 2015, Study Session # 6, Reading # 18
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2.2 Measuring a Defined Benefit Pension Plan's Obligations
IFRS
Obligation is called PVDBO.
PVDBO ⇒ PV of expected future
payments required to settle the
obligations arising from employee
service in the current & prior periods
(without deducting any plan assets).
U.S.GAAP
Obligation is called PBO.
PBO ⇒ the actuarial PV as of a date of all benefit
attributed by the pension benefits formula to employee
service rendered prior to that date.
U.S. GAAP also identifies two other measures of pension
liability including VBO & ABO.
Pension Obligation
Pension obligation depends upon a number of actuarial assumptions (e.g. discount rate,
future salary increase etc.).
2.3 Financial Statement Reporting of Pension Plans and Other Post-Employment Benefits
Contribution into the plan is recorded as an expense on the income statement.
Liability is recognized at the end of the reporting period only for any unpaid contributions.
2.3.1 Defined Contribution Pension Plans
2.3.2.1 Balance Sheet Presentation
Both IFRS & U.S.GAAP require a
pension plan’s funded status to be
reported on the BS.
Funded status = PV of the defined
benefit obligation – FV of the plan
assets.
Underfunded (overfunded) plan ⇒ net
pension liability (asset).
2.3.2.2 Periodic Pension Cost
Periodic pension cost ⇒ ∆ in the net
pension liability or asset adjusted for
the employer’s contribution.
The periodic pension cost is recognized
in profit or loss &/or in OCI.
2.3.2 Defined Benefit Pension Plans
IFRS
Service cost ⇒ amount by which a company’s pension obligation
increases as a result of employees’ service in the current period.
Past service costs ⇒ amount by which a company’s pension obligations
relating to employees’ service in prior periods changes as a result of plan
amendment or a plan curtailment.
Both current & past service costs are recognized as an expense in P&L.
Net interest expense/ income ⇒ calculated by multiplying the net
pension liability /assets by the DR used in determining the PV of the
pension liability.
Net interest expense/income is recognized in P&L.
Remeasurement ⇒ it includes ⇒
Actuarial G&L.
Diff. b/w actual return on plan assets & the amount included in the
net interest expense/ income calculation.
Remeasurement amounts are recognized in OCI (no subsequent
amortization to P&L).
U.S.GAAP
Current service cost is recognized in P&L.
Past service costs are reported in OCI in the period in which cost occurs
(amortized to P&L over the avg. service life of employees).
Periodic pension cost for P&L includes interest expense & return on plan
assets (similar to IFRS).
Interest expense & return on plan assets are not netted & expected
return on plan assets is used rather actual return on plan asset.
Difference b/w expected & actual return is a source of actuarial G/L.
All actuarial G/L can be reported either in P&L or in OCI.
Corridor approach:
Net cumulative unrecognized actuarial G/L at the beginning of the
reporting period are compared with DBO & the FV of plan assets at
the beginning of period.
If unrecognized G/L > 10% of the greater of the DBO or the FV of
plan assets, the excess is amortized (component of periodic pension
expense in P&L) over the expected avg. remaining working lives of
the participating employees.
Periodic Pension Cost

3. 2015, Study Session # 6, Reading # 18
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2.3.2.2 Periodic Pension Cost
Some amount of pension costs may qualify for capitalization as part of the costs of self
constructed assets (e.g. inventories).
These costs are recognized in P&L as part of COGS.
IFRS ⇒ do not specify where companies presents the various components of periodic pension
cost beyond the components presented in P&L & OCI.
U.S.GAAP ⇒ all components of net periodic pension cost that are recognized in P&L to be
aggregated & presented as a net amount within the same line item on I.S.
2.3.3 More on the Effect of Assumptions and Actuarial Gains and Losses on Pension and Other Post-Employment
Benefits Costs
Pension obligations are based on many estimates & assumptions (e.g. employee turnover, length of service, DR
etc.).
An ( ) in pension obligation resulting from ∆ in actuarial assumptions is considered an actuarial loss (gain).
Estimates related to plan assets also affect annual pension cost (mainly under U.S.GAAP because expected rather
than actual return on plan asset is used).
IFRS use projected unit credit method to measure the DB obligation.
PUCM gives rise to an additional unit of benefit during each period of service to which the employee is
entitled at retirement.
Objective ⇒ to allocate the entire expected retirement costs over the employee’s service periods.
OPB also requires assumptions & estimates.
2.4 Disclosures of Pension and Other Post-Employment Benefits
Comparative financial analysis using ratios can be affected due to several reasons e.g.
Difference in key pension assumptions.
Funded status is reported on BS rather than gross amounts. Gross amounts can ∆ certain
financial ratios.
IFRS & U.S.GAAP differ in their provisions about cost recognized in P&L v/s in OCI.
Periodic pension costs in P&L may not be comparable (pension cost is single line item under
U.S.GAAP, various line items under IFRS).
CF information may not be comparable.
2.4.1 Assumptions
In order to assess conservative or aggressive biases, assumptions must be compared over time &
across companies.
DR assumption is based on the market IR of high-quality corporate fixed income investments of
similar maturity to timing of future pension payments.
Assumptions must be internally consistent.
Higher expected return assumptions (U.S.GAAP only) presumably reflect riskier investments.
Under OPB following assumptions would result in ( ) benefit obligations & a ( ) periodic
costs:
A ( ) near-term increase in health care costs.
A ( ) assumed ultimate health care trend rate.
A later (an earlier) year in which the ultimate health care trend rate is assumed to be
reached.
2.4.2 Net Pension Liability (or Asset)
Funded status is reported on the BS under both IFRS & U.S.GAAP.
Footnotes can be used for gross amount of pension plan assets & liabilities which reflect
underlying economic liabilities & assets of a company.
If gross benefits obligations is > company’s total assets, a small change in pension liability can
have a significant financial impact on the sponsoring company.

4. 2015, Study Session # 6, Reading # 18
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2.4.3 Total Periodic Pension Costs
Net periodic pension cost = ending funded status – employer contributions – beginning funded
status.
Total periodic cost in a given period can also be calculated by summing the periodic components
of cost.
Payment of cash out of a DB plan to a retiree does not affect the net pension liability or assets
(reduce plan assets & obligations by an equal amount).
2.4.4 Periodic Pension Costs Recognized in P&L vs. OCI
IFRS & U.S.GAAP differ in their provisions about which periodic pension costs are recognized in P&L
v/s in OCI.
Analyst adjustment in U.S.GAAP company’s P&L to make it similar to an IFRS company:
Include (exclude amortization of) past service costs arising during the period (previous
periods).
Return on plan assets at a DR rather than the expected rate.
Alternatively:
Analyst could use comprehensive income as the basis for comparison.
2.4.5 Classification of Periodic Pension Costs Recognized in P&L
Periodic pension costs are generally treated as operating expense.
To better reflect the operating performance an adjustment can be made as:
Add back the full amount of pension costs to operating income & then subtract only the
service costs.
The interest expense component would be added to the company’s interest expense.
Return on plan assets would be treated IFRS & U.S.GAAP differ in their provisions about which
periodic pension costs are recognized in P&L v/s in OCI.
Analyst adjustment in U.S.GAAP company’s P&L to make it similar to an IFRS company:
Include (exclude amortization of) past service costs arising during the period (previous
periods).
Return on plan assets at a DR rather than the expected rate.
Alternatively:
Analyst could use comprehensive income as the basis for comparison.
2.4.6 Cash Flow Information
Cash flow impact of pension is the amount of contribution made to fund the plan or the amount
of benefits paid (for unfunded plans).
If periodic contributions > (<) total pension costs, the excess (shortage) can be viewed as a
reductions of pension obligation (source of financing).
If amounts of benefit obligations are material, the analyst may adjust the CFs in statement of CF.

5. 2015, Study Session # 6, Reading # 18
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3. SHARE-BASED COMPENSATION
3.1 Stock Grants
Outright transfer
With restrictions or contingent on
performance.
Restricted stock
Cannot sell until vesting.
Performance stock
Contingent on meeting performance.
Accounting numbers manipulation e.g.
earnings, ROA.
Compensation expense
Fair value at grant date allocated over
service life.
Fair value method
Option pricing model (Binomial or Black
– Scholes) is used to measure fair value
of employees’ stock options.
Inputs are important, some are known,
others are subjective (e.g. volatility).
Volatility estimated life RF ⇒ FV
while D.Y FV.
Compensation expense is reported at
fair value (both IFRS & U.S. GAAP).
Option expense is recognized over the
relevant vesting period ( retained
earnings & the offsetting entry is an in
paid-in capital, no net impact on total
equity).
3.2 Stock Options
Form of deferred compensation (no initial cash outlay).
Both IFRS & U.S.GAAP require disclosure of management compensation.
Align managers’ interest with shareholders.
Recipient has no influence over MP.
Ownership of existing owners is diluted (in case of stock grants & stock
options).
Several important dates
Grant date Day options are granted
Service period Period b/w grant date & vesting date
Vesting date Date employee can first exercise options
Exercise date Actual options exercise date
Stock grants & stock options (equity
settled) ⇒ allow the employee to
obtain direct ownership in the company.
SARs & phantom stock (cash settled) ⇒
compensate an employee based on ∆ in
value of shares (no need to hold shares).
SARs are valued at fair value &
compensation expense is allocated over
the service period of the employee.
Phantom share ⇒ compensation is
based on performance of hypothetical
stock rather than company’s actual
stock.
Used by private companies, private
units or by highly illiquid
companies.
3.3 Other Types of Share-Based
Compensation
SARs
Require a current period cash outflow
Disadvantages
Limited downside risk & unlimited
upside potential.
No ownership dilution.
Advantages