The term contingent issuance agreement is used to describe shares of common stock that will be issued by one company to another party if certain conditions are met. Contingent issuance agreements are sometimes used when one company acquires another, whereby the acquiring company might agree to issue additional shares of common stock if the acquired company achieved certain earnings targets.
Explanation
As the name implies, contingent agreements typically occur when negotiations between parties fail to come to a settlement on an issue. The contract between these parties then becomes one of "if-then" in terms of how one party will treat the other. This type of contract can be the outcome between companies when one acquires another. For example, the acquiring company may agree to issue the shareholders of the acquired company additional shares of common stock if the value of the acquired company's stock rises above a certain threshold in a given timeframe.
From an accounting standpoint, contingent issuance agreements are similar to performance-based stock option plans, since there is some uncertainty with respect to the number of shares that might be issued. The shares to be issued should be considered as outstanding when computing both the primary and fully-diluted earnings per share. However, the calculation of earnings per share should also reflect the agreed-to performance standard(s).
Example
Company A acquired Company XYZ and agreed to provide the shareholders of Company XYZ with 50,000 additional shares of common stock in Company A if Company XYZ increased its prior year's earnings of $2,000,000 by 10% in the current fiscal year. Before the agreement, Company A's earnings per share estimate was $2.00. This was based on an earnings projection of $10,000,000 and 5,000,000 shares of common stock outstanding.
The following approach is used to calculate Company A's new earnings estimate:
Original Earnings Estimate
$10,000,000
Earnings Contribution: Contingency Agreement
$200,000
Revised Earnings Based on Agreement with Company XYZ
$10,200,000
Company A must also account for the additional shares issued as part of the agreement:
Current Number of Shares Outstanding
5,000,000
Contingent Issuance Agreement Shares
50,000
Shares Outstanding Based on Agreement with Company XYZ
5,050,000
The new earnings per share estimate for Company A would then be:
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