Question - In order to retain certain key executives, Smiley Corporation granted them incentive stock options on December 31, 2009. 80,000 options were granted at an option price of $35 per share. Market prices of the stock were as follows:

December 31, 2010 $46 per share

December 31, 2011 51 per share

The options were granted as compensation for executives' services to be rendered over a two-year period beginning January 1, 2010. The Black-Scholes option pricing model determines total compensation expense to be $800,000.

Instructions:

1) What amount of compensation expense should Smiley recognize as a result of this plan for the year ended December 31, 2010 under the fair value method?

2) Prepare journal entries relating to the stock option plan for years 2010, 2011, and 2012. Assume that the employee performance services equally in 2010 and 2011.