Underwater Exchange Calculator

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Expected Term (years) * Definitions
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* Assumes the same expected term for the valuation of the options immediately before and after the exchange. However, please note that the FASB did not explicitly describe the assumptions, but the assumptions used to value the pre-modification and post-modification options likely will differ. For example, the pre-modification award is generally out-of-the-money (sometimes significantly), and would be expected to be held longer than an award that is not out-of-the-money. In fact, the examples provided in 718-20-55-93 to 718-20-55-102 apply a binomial model to value the awards, since a binomial model can consider exercise behavior as a function of the moneyness level. The use of a binomial model will result in a longer expected term for the out-of-the-money option than for the new at-the-money option. This is because on average it will take longer for the option with the higher exercise price to achieve the suboptimal exercise factors. As a result of the different expected terms, the other assumptions may vary as well. Please contact us to speak further about the development of the exercise behavior before and after the exchange.

Developing the underlying assumptions for an option exchange can be quite complex. Generally options that are "underwater" have a longer expected term that those that are at-the-money. Further, since most ("plain vanilla") exchanged awards are not at-the-money, they would not be eligible to apply the simplified approach of SEC Staff Accounting Bulletins 107 or 110. Depending on the materiality, many audit firms require an expected term developed with considerations of the award's moneyness. A measure of the amount by which a financial variable such as a share price has fluctuated (historical volatility) or is expected to fluctuate (expected volatility) during a period. Volatility also may be defined as a probability-weighted measure of the dispersion of returns about the mean. The volatility of a share price is the standard deviation of the differences in the natural logarithms of the stock prices plus dividends, if any, over the period. The higher the volatility, the more the returns on the shares can be expected to vary up or down. Volatility is typically expressed in annualized terms. RVS Volatility Calculator - Coming soon! Option-pricing models call for the risk-free interest rate as an assumption to take into account, among other things, the time value of money. A U.S. entity issuing an option on its own shares must use the risk-free interest rates from the U.S. Treasury zero-coupon yield curve over the performance measurement period. (http://www.federalreserve.gov/releases/H15/default.htm) Option-pricing models generally call for expected dividend yield as an assumption. Additionally, an entity's historical pattern of dividend increases (or decreases) should be considered. For example, if an entity has historically increased dividends by approximately 3 percent per year, its estimated share option value should not be based on a fixed dividend amount throughout the share option’s expected term. As with other assumptions in an option-pricing model, an entity should use the expected dividends that would likely be reflected in an amount at which the option would be exchanged.