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Strategies & Market Trends : Employee Stock Options - NQSOs & ISOs
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To: Biomaven who wrote (97)6/21/2002 12:05:06 AM
From: ExacctntRead Replies (3) of 786
 
<<<FAS 128, which governs reporting of diluted earnings, does precisely that, using what is known as the Treasury Stock Method. You basically buy back shares at the average price for the quarter using the proceeds of the assumed exercise (plus a tax benefit for NQ options). Net result is that the cheaper an option is the more dilution it causes. Options whose strike price is equal to the average stock price for the quarter are a wash - neither dilutive nor anti-dilutive. >>>>

To be more precise, when using the Treasury Stock Method, shares that are in the money at the end of the accounting period are the only options used in the dilution calculation. Once the number of in the money shares are determined, those shares times their grant price provides the amount collectable from employees. That amount is then divided by the market price at the end of the accounting period which provides the number of shares that could be bought back by the company reducing dilution.

In addition to determining shares bought back from cash received from employees, a tax effect calculation is made to determine the tax credit the company receives on the gains which would be taken if all in the money shares were exercised by employees. That gain is the difference between the market price at the end of the period and the grant price. Using the statutory tax rate of 35%, the gains times the statutory rate provides an amount of cash tax savings that is assumed to be used to buy back shares which is an additional reduction in diluted shares.

One final consideration, is that the diluted shares are a weighted average for each accounting period. The first quarter starts the year and is not averaged. But each quarter thereafter is averaged with the prior quarters.
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