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Walters Audio Visual, Inc., offers a stock option plan to its regional managers. On January 1, 2016, options were granted for 40 million $1 par common shares. The exercise price is the market price on the grant date, $9 per share. Options cannot be exercised prior to January 1, 2018, and expire December 31, 2022. The fair value of the options, estimated by an appropriate option pricing model, is $3 per option. Because the plan does not qualify as an incentive plan, Walters will receive a tax deduction upon exercise of the options equal to the excess of the market price at exercise over the exercise price. The income tax rate is 40%.

Required:

1.

Determine the total compensation cost pertaining to the stock option plan.

2.

Prepare the necessary journal entries.

-Record compensation expense on December 31, 2016.

-Record any tax effect related to compensation expense recorded in 2016.

-Record compensation expense on December 31, 2017.

-Record any tax effect related to compensation expense recorded in 2017.

-Record the exercise of the options on March 20, 2021 when the market price is $13 per share.

-Record any tax effect related to the exercise of the options.

3.

Assume the option plan qualifies as an incentive plan if all of the options are exercised on March 20, 2021, when the market price is $12 per share. Prepare the necessary journal entries

-Dec 31, 2016 Record compensation expense on December 31, 2016.

-Dec 31 ,2016 Record any tax effect related to compensation expense recorded in 2016.

- Dec 31, 2021 Record the exercise of the options on March 20, 2021 when the market price is $12 per share.

-March 31, 2021 Record any tax effect related to the exercise of the options.

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