Question

In order to retain certain key executives, Jensen Corporation granted them incentive stock options on December 31, 2009. 50,000 options were granted at an option price of $35 per share. Market prices of the stock were as follows:

December 31, 2010 $46 per share
December 31, 2011 51 per share
The options were granted as compensation for executives' services to be rendered over a two-year period beginning January 1, 2010. The Black-Scholes option pricing model determines total compensation expense to be $500,000. What amount of compensation expense should Jensen recognize as a result of this plan for the year ended
December 31, 2010 under the fair value method?
a. $250,000.
b. $500,000.
c. $550,000.
d. $1,750,000.

Answer 1

The compensation expense Jensen Corporation should recognize for the year ended December 31, 2010, under the fair value method is $250,000, which is half of the total $500,000 expense determined by the Black-Scholes model, spread evenly over the two-year vesting period.

Step-by-step explanation:

The student's question relates to the recognition of compensation expense under the fair value method for stock options granted to employees. Given that the total compensation expense determined by the Black-Scholes option pricing model is $500,000 and the options vest over a two-year period, the expense should be recognized evenly over the two years. Therefore, the amount of compensation expense recognized for the year ended December 31, 2010, is half of the total expense.

The correct answer to the student's question is:

a. $250,000.

This is because the total compensation expense is divided evenly over the two-year service period ($500,000 / 2 = $250,000 per year).