Overview

This briefing by Latham & Watkins provides a survival guide for initial public offering (IPO) candidates seeking to grant equity awards to their employees during the 12-month window preceding the filing of an IPO registration statement.

When a company makes pre-IPO equity awards at valuations substantially lower than the IPO price, questions arise under accounting and tax rules that apply to equity awards. Under these rules, the value of an equity award on the grant date is considered compensation expense on the company’s income statement for purposes of US generally accepted accounting principles (GAAP) and may constitute taxable income to the employee for US income tax purposes. This collection of issues is known as the ‘cheap stock’ problem.

This guide includes a review of the accounting and tax issues associated with equity awards to company employees during the months preceding an IPO, as well as a summary of the related concerns of the Staff of the Securities and Exchange Commission (SEC).

It also includes some specific, practical guidance on how best to navigate these choppy waters so you can sail safely through the IPO process rather than running aground on cheap stock issues during the SEC Staff’s review of your registration statement.

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