Employee Compensation: Post-Employment and Share-Based

Pensions and share-based pay are among the largest and most judgement-heavy costs a company reports, and their accounting spreads them across profit or loss, other comprehensive income, equity and liabilities in ways that differ between IFRS and US GAAP. This module explains the main forms of employee compensation, how share-based awards are measured and forecast, how defined benefit plans flow through the financial statements, and how analysts adjust leverage, earnings, cash flow and valuation for pension obligations. Level II item sets often give a pension note and ask for expense, OCI, cash flow adjustments and the effect of assumptions.

Start this lesson free Practice questions

What you will learn

1. Distinguish the main forms of employee compensation and explain who bears the risk in defined contribution and defined benefit plans.

Short-term benefits are expensed as earned; unpaid amounts are accrued.
DC plan: expense = contribution due; the employee bears investment and longevity risk.
DB plan: the employer bears investment, interest rate and longevity risk; accounting uses actuarial estimates.
OPEB, such as retiree health care, is usually unfunded and accounted for like a DB plan.
Share-based pay aligns incentives and aids retention but dilutes shareholders; options can encourage risk-taking.

2. Explain how share-based awards are measured and recognised under IFRS and US GAAP, and forecast their expense and dilution in a model.

Equity-settled awards: grant-date fair value expensed over the vesting period, not remeasured.
Option fair value rises with volatility, expected term and the risk-free rate, and falls with dividend yield.
IFRS estimates forfeitures and front-loads graded vesting; US GAAP allows forfeitures as they occur and straight-line for service-only graded awards.
Cash-settled awards are liabilities remeasured each period.
Model share-based pay as a real expense and forecast dilution with the treasury stock method.

3. Explain how defined benefit plans affect the balance sheet, profit or loss and other comprehensive income under IFRS and US GAAP, and how actuarial assumptions affect them.

Net DB liability = DBO - plan assets; IFRS caps a surplus at the asset ceiling.
IFRS P&L: service cost + net interest at the discount rate; remeasurements in OCI, never recycled.
US GAAP P&L: service + interest - expected return + amortisation of OCI amounts (corridor).
Total periodic pension cost = change in net liability excluding contributions, the same under both frameworks.
Higher discount rate lowers the DBO; higher salary growth or longevity raise it; a higher expected return lowers US GAAP cost.

4. Adjust financial statements, ratios and valuations for pension and other post-employment benefit obligations.

Treat net pension and OPEB deficits as debt, often after tax, in leverage ratios and valuation bridges.
Service cost is operating; interest cost is financing; asset returns are investment income.
Contributions above total pension cost: move the after-tax excess from CFO to CFF (CFO rises); below cost: the reverse.
Compare actuarial assumptions with peers using sensitivity disclosures.
Avoid double counting a deficit in both free cash flow and the EV-to-equity bridge.

Module at a glance

DC plans: expense equals contributions and employees bear the risk; DB plans: the employer bears investment, rate and longevity risk.
Equity-settled awards are expensed at grant-date fair value over vesting; cash-settled awards are liabilities remeasured each period.
IFRS estimates forfeitures and front-loads graded vesting; US GAAP allows forfeitures as they occur and straight-line for service-only awards.
IFRS pension P&L = service cost + net interest at the discount rate; remeasurements go to OCI and are never recycled.
US GAAP pension P&L = service + interest - expected return + amortisation; total periodic pension cost is the same under both.
A higher discount rate lowers the DBO; higher salary growth or longevity raise it.
Treat pension deficits as debt, move after-tax contribution gaps between CFO and CFF, and avoid double counting in valuation.

This free module has 4 lessons, 14 practice questions with full explanations.

Start the lesson