IE37-38-Example 10 A compound part derivative instrument

Last Updated on 12/02/2020 by 75385885

IAS 32 Financial Instruments: PresentationIE37-38-Example 10 A compound part derivative instrument

IE37-38-Example 10 A compound part derivative instrument

Accounting for compound financial instruments

Separation of a compound financial instrument with multiple embedded derivative features

IE37 The following example illustrates the application of paragraph 31 to the separation of the liability and equity components of a compound financial instrument with multiple embedded derivative features.

IE38 Assume that the proceeds received on the issue of a callable convertible bond are CU60. The value of a similar bond without a call or equity conversion option is CU57. Based on an option pricing model, it is determined that the value to the entity of the embedded call feature in a similar bond without an equity conversion option is CU2. In this case, the value allocated to the liability component under paragraph 31 is CU55 (CU57 – CU2) and the value allocated to the equity component is CU5 (CU60 – CU55).

Example 11 Repurchase of a convertible instrument

Accounting for compound financial instruments

IE39 The following example illustrates how an entity accounts for a repurchase of a convertible instrument. For simplicity, at inception, the face amount of the instrument is assumed to be equal to the aggregate carrying amount of its liability and equity components in the financial statements, ie no original issue premium or discount exists. Also, for simplicity, tax considerations have been omitted from the example.

IE40 On 1 January 20X0, Entity A issued a 10 per cent convertible debenture with a face value of CU1,000 maturing on 31 December 20X9. The debenture is convertible into ordinary shares of Entity A at a conversion price of CU25 per share. Interest is payable half-yearly in cash. At the date of issue, Entity A could have issued non-convertible debt with a ten-year term bearing a coupon interest rate of 11 per cent.

IE41 In the financial statements of Entity A the carrying amount of the debenture was allocated on issue as follows:

CU

Liability component

Present value of 20 half-yearly interest payments of CU50, discounted at 11%

597

Present value of CU1,000 due in 10 years, discounted at 11%, compounded half-yearly

343

940

Equity component

(difference between CU1,000 total proceeds and CU940 allocated above)

60

Total proceeds

1,000

IE42 On 1 January 20X5, the convertible debenture has a fair value of CU1,700.

IE43 Entity A makes a tender offer to the holder of the debenture to repurchase the debenture for CU1,700, which the holder accepts. At the date of repurchase, Entity A could have issued non-convertible debt with a five-year term bearing a coupon interest rate of 8 per cent.

IE44 The repurchase price is allocated as follows:

Carrying value

Fair value

Difference

CU

CU

CU

Liability component:

Present value of 10 remaining half-yearly interest payments of CU50, discounted at 11% and 8%, respectively

377

405

Present value of CU1,000 due in 5 years, discounted at 11% and 8%, compounded half-yearly, respectively

585

676

962

1,081

-119

Equity component

60

619

1

-559

Total

1,022

1,700

-678

IE45 Entity A recognises the repurchase of the debenture as follows:

DR

Liability component

CU962

DR

Debt settlement expense (profit or loss)

CU119

CR

Cash

CU1,081

To recognise the cash paid of the liability component

DR

Equity

CU619

CR

Cash

CU619

IE 46 The equity component remains as equity, but may be transferred from one line item within equity to another.

Example 12 Amendment terms to early induce conversion

Accounting for compound financial instruments

Amendment of the terms of a convertible instrument to induce early conversion

IE47 The following example illustrates how an entity accounts for the additional consideration paid when the terms of a convertible instrument are amended to induce early conversion.

IE48 On 1 January 20X0, Entity A issued a 10 per cent convertible debenture with a face value of CU1,000 with the same terms as described in Example 11. On 1 January 20X1, to induce the holder to convert the convertible debenture promptly, Entity A reduces the conversion price to CU20 if the debenture is converted before 1 March 20X1 (ie within 60 days).

IE49 Assume the market price of Entity A’s ordinary shares on the date the terms are amended is CU40 per share. The fair value of the incremental consideration paid by Entity A is calculated as follows:

Number of ordinary shares to be issued to debenture holders under amended conversion terms:

Number of ordinary shares to be issued to debenture holders under amended conversion terms:

Face amount CU1,000
New conversion price (price per share) CU20
Number of ordinary shares to be issued on conversion: 1,000 / 20 = 50

Number of ordinary shares to be issued to debenture holders under original conversion terms:

Face amount CU1,000
Original conversion  price (price per share) CU25
Number of ordinary shares to be issued on conversion: 1,000 / 25 = 40
Number of incremental ordinary shares issued upon conversion 10

Value of incremental ordinary shares issued upon conversion

CU 40/per share x 10 incremental shares CU400

IE50 The incremental consideration of CU400 is recognised as a loss in profit or loss.

Previous

End of IAS 32

 

Source EU rules on financial information disclosed by companies

 

Last Updated on 12/02/2020 by 75385885

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