Closing the GAAP: The Ingenium Blog

Stock Based Payments to Non-Employees – Performance Commitment Consideration

History indicates that smaller reporting companies, development and exploration stage entities, and any other small business with little capital rely heavily on meeting their obligations, of all varieties, via the issuance of common stock .

Reviews of 100’s of public company filings and contractual agreements reveals the interpretation of agreement terms and GAAP application may not always seem to be consistent with the economic substance of an individual transaction.

Consider the following example:

Company A issues 1,000,000 shares to Consultant Z to receive consulting services for a period of 24 months.  The agreement describes a variety of tasks the consultant is going to perform, but there are no specific performance milestones, essentially providing for Consultant Z to earn the shares with the passage of time, assuming task performance.  On the grant date, January 1, 2012, the 1,000,000 shares have a fair value of $500,000.

Additionally, Consultant Z must forfeit the “unearned” shares for non-performance in the event of early termination of the arrangement.  Upon early termination, Company A has the right to cancel the unearned shares without additional significant financial consequence enforceable against Consultant Z.

Over the term, the value of the shares is perpetually $0.10 higher at the end of the month than the beginning (e.g. 1/1/12 = $0.50; 1/31/12 = $0.60; 2/28/12 = $0.70; etc. to $2.90 at 12/31/13)

Frequent Recognition (Restatement Exposure):

Company A Grant Date Entries:



Prepaid   Consulting Fees $500,000
  Stock and Paid in Capital $500,000


On January 31, 2012 and the remainder of the 24 month term, Company A recognizes the following:



Consulting   Expense $20,833
Prepaid   Consulting Fees $20,833


In total Company A recognizes $250,000 for the fiscal years 2012 and 2013.  At December 31, 2012 Company A recognizes a prepaid asset of $250,000.

GAAP Application Difference:

Absent certain non-forfeitable and significant monetary damage terms due from Consultant Z, US GAAP provides for the recognition at the date of completion of the services rather than the grant date.

Interpretation of the date the services are completed by Consultant Z (monthly; annually; contact maturity date”), along with the application of US GAAP, could result in expense recognition not deemed to be reflective of the economic substance of the transaction by a reasonable investor.

The following table illustrates the GAAP application differences (all outcomes assume completion of tasks over the 24 month period):

2012 Expense

2013 Expense

Total Expense

Outcome   1:  Frequent Recognition




Outcome   2: Monthly GAAP Recognition




Outcome   3: Annual GAAP Recognition




Outcome   4: Contract Maturity GAAP Recognition





Though both parties agreed to exchange stock for services assumed to have a value of $500,000 over the contract period, the specific terms of the stock issuance and forfeiture clause could have a substantial impact on the proper application and recognition of this transaction.

Clearly, given the example above, no prudent executive/director would structure a transaction which would result in the recognition of an expense three or even six times the original expectation.