Determining whether an instrument is linked to the entity’s own stock is a two part test. The first criterion (ASC 815-40-15-7A and 7B) looks at the exercise contingencies, if any, and evaluates their nature. If there are no exercise contingencies, then the first criterion is met. However, if there are one or more exercise contingencies, they must be based solely on either 1) the market for the entity’s own stock (e.g., trading volume, closing price, average for a given time period) or 2) some observable index the is a measure solely by reference to the entity’s own operations (e.g., net income, earnings per share, revenue). If the contingency is based on any other market (e.g., S&P 500) or observable index (e.g., rate of inflation, an interest rate benchmark), then this criterion is not met. Remember, this must be a contingency based solely on some measurement of the entity itself and no other outside factor or factors regardless of how minimal.
The ASC provides a list of example exercise contingencies that meet or do not meet the criterion. The can be found at ASC 815-40-___). Several of these are common exercise contingencies found in equity-linked agreements. Click Examples for a list of additional examples.