Medical Device Link.

Originally Published MX January/February 2006

FINANCE

In light of Financial Accounting Standard 123R (FAS 123R), equity-based executive compensation programs are undergoing a transformation. Below are some of the common terms used when discussing these programs. Included are some of the alternative options to which medtech companies are turning due to the impact FAS 123R will have on the fair-market-value options that were previously the standard in executive compensation.

FAS 123R. An accounting pronouncement that requires employers to reflect, as a compensation expense on their financial statements, a value for equity grants to employees; the value is based on a calculation under one of a number of mathematical models (the most popular of which is the Black-Scholes-Merton method), and the expense occurs as the equity grant vests in the recipient.

Fair-market-value (FMV) option. The right to purchase a share of the employer's stock at a fixed price during a stated period. The fixed price is the fair market value of the stock on the date that the option is granted; therefore, if the stock appreciates in value, the holder of the option profits. Typically, these options have vesting periods (all or part of the option cannot be exercised until a period of time has passed) and terms (the option cannot be exercised more than a certain time after the grant, usually 10 years).

Incentive stock option (ISO). The right to purchase a share of the employer's stock under terms specified under the Internal Revenue Code. The exercise of an ISO by the executive and retention of the underlying share for a certain period of time entitles the executive to favorable federal income tax treatment on the transaction.

Long-term incentive program. A compensation program under which an executive receives a payment (in cash, shares, or both) at a future time based on performance in a prior year or period of years.

Nonqualified stock option. The right to purchase a share of the employer's stock that is not an ISO (see above). The vast majority of options issued by medical device companies are nonqualified stock options.

Performance share. The grant of a share of the employer's stock that does not become the property of the recipient until a stated performance measure is achieved. Performance unit. The right to a cash payment from the employer equal to the fair market value of a share of the employer's stock when a stated performance measure is achieved.

Performance vesting. The executive is entitled to outright ownership of a share of restricted stock or to exercise an option when a condition is satisfied; performance-vesting conditions typically relate to an increase in share price or attainment of revenue or income goals.

Phantom stock. The right to a cash payment from the employer equal to the fair market value of a share of the employer's stock on the date of exercise. Unlike the stock appreciation right described below, the executive receives the full value of a share of stock.

Restricted stock. The grant of a share of the employer's stock. The share does not become the property of the recipient until the restrictions have lapsed. Restrictions can be time based or performance based.

Restricted-stock unit (RSU). The right to a cash payment from the employer equal to the fair market value of a share of the employer's stock when the right matures. The right to payment does not mature until the restrictions have lapsed. Restrictions can be time based or performance based.

Stock appreciation right. The right to a cash payment from the employer equal to the fair market value of a share of the employer's stock on the date of exercise reduced by the fair market value of a share of the employer's stock on the date that the stock appreciation right is granted. The executive receives the appreciation of a share of stock.

Vesting. The executive is entitled to outright ownership of a share of restricted stock or to exercise an option when a condition is satisfied; vesting conditions typically relate to the passage of time or the satisfaction of a goal (see performance vesting, above).

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