Australia Unknown Exercise/Strike Price at Grant Date

[AusAccountant]

This query relates to employee share based payments within the scope of IFRS 2.

Option type: European
Market (‘Spot’) price at 1 January 20X2: $1
Volatility: 25%
Grant date: 1 January 20X2
Vesting date: 1 January 20X3
Exercise (‘Strike’) price: Calculated as average market price from 27 - 31 December 20X2, plus 25%

The options are still considered ‘granted’ because there is a shared understanding of the terms/conditions (with the only unknown - the exercise price - being objective and formulaic). IFRS 2 doesn’t have the criteria which exists under US GAAP that there must be exposure to fluctuations in share price before grant date occurs.

Given, therefore, that the options are granted, we need to fair value them at grant date. However, to fair value using any of the option pricing models under IFRS 2, we need to know the exercise price. How do we do this if we do not know the exercise price until some point in the future?

 

[DrStrangeLove]

It's been a long time since I've looked at anything about option valuation. But from your description, the option you're trying to value isn't a European option. It's an Asian option, which can be valued (approximately) with Black-Scholes. A strike price equal to the average stock price over a period makes it an Asian option, or at least "Asian enough" to value as though it were an Asian option.

You might google "Asian option valuation Turnbull Wakeman" or "Asian option valuation Levy" for a couple choices about how to value the option. The Turnbull-Wakeman model and the Levy model are popular choices, though the math is rather intense for each of them.