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the option is used instead of the ESO’s actual or maximum life.
During the years in issue, petitioners, on their Securities
and Exchange Commission Forms 10-K, elected to use the IVM, as
prescribed in APB 25, to measure expenses attributable to ESOs.
As required by SFAS 123, petitioners disclosed net income and
earnings per share as if the FVM had been applied. In
determining the fair value of ESOs, petitioners used an adjusted
BS model.
VI. Procedural History
A. Petitioners’ Federal Income Tax Returns
Petitioners are accrual basis taxpayers and timely filed
consolidated Federal income tax returns for their taxable years
ended March 29, 1996, March 29, 1997, March 28, 1998, and April
3, 1999. During the years in issue, GAAP, pursuant to APB 25,
provided that the issuing company did not incur an expense
related to options granted at-the-money. In accordance with APB
25, petitioner did not, for purposes of its cost-sharing
agreement with XI, include any costs related to ESOs issued to
employees.
On December 28, 2000, and October 17, 2002, respondent
issued notices of deficiency relating to 1996 through 1998 and
1999, respectively. In his notices of deficiency, respondent
determined that petitioners were required, pursuant to its cost-
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