Jason Johnson, CFA, is a principal of a large private equity firm in New York. One of the associates in his firm has identified a potential investment opportunity for the firm. Gasline, Inc. is a major producer of pipeline used in the production of natural gas in the Southwest United States. Last year, Gasline had approximately $150 million in sales, and sales are expected to increase as a result of increasing demand for their product. The company was founded over twenty-five years ago, and has been publically traded for the last ten years. The founder of the company, along with other members of the family, holds the majority of the common stock, and the group is amenable to liquidating their collective position at this time. Johnson’s associate believes there is significant opportunity in the industry, based upon new technology that allows for the extraction of natural gas from locations and depths that previously were too cost-prohibitive. This new technology should translate into increased demand for the industry, both domestically and abroad. Johnson concurs with this forecast for the industry, but believes further in-depth analysis must be performed before any investment decision can be made. Of particular concern to Johnson is Gasline’s numerous, complicated transactions related to the company’s various stock-based compensation plans. Over the past decade, the company has participated in varying degrees in programs involving stock option grants, an employee stock purchase plan, and performance-based awards. Johnson believes that thorough analysis of each program will determine whether or not the programs were properly accounted for in Gasline’s financial statements. The CEO of Gasline was awarded a stock option package at the beginning of 2006, which could ultimately have a significant impact on the company’s future earnings. Details of the CEO’s stock option grant are outlined below. The company established an employee stock purchase plan in 2004. Under the existing plan guidelines, full-time employees of Gasline that have completed 3 years of service are eligible to purchase up to 1,000 Gasline shares per year at a 15% discount. Since inception of the program, employees of the company have purchased approximately 75,000 shares. In the footnotes to the company’s financial statements, it states that Gasline’s management has determined that the plan is noncompensatory and therefore no compensation expense has been recognized in association with the plan. Part of the total compensation package for Gasline employees comes through participation in a service-based stock awards grant program. Under this program, all full-time employees are awarded 100 shares of Gasline common stock on July 1st of each year. Employees vest at the rate of 20% each year, and are fully vested after the completion of five years of service. Employees that leave the company or retire prior to being fully vested forfeit all interest in the stock. Johnson questions whether or not Gasline’s accounting treatment of this program is fully in accordance with FASB standards. CEO Options (grant date January 1, 2006)
