Scribd
Upload
117 views20 pages

ACTGIA2 CH07 Compound-Financial-Instrument

A financial instrument is a contract that gives rise to a financial asset for one entity and a financial liability or equity instrument for another. There must be at least two parties to the contract, and the contract must give rise to an asset for one party and a liability or equity for the other. Compound financial instruments contain both a liability and equity component from the issuer's perspective and must be accounted for separately using split accounting, where the liability value is determined first and the residual is allocated to equity. Convertible bonds are an example of a compound instrument that is accounted for partly as a liability and partly as equity.

Uploaded by

ching
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
117 views20 pages

ACTGIA2 CH07 Compound-Financial-Instrument

A financial instrument is a contract that gives rise to a financial asset for one entity and a financial liability or equity instrument for another. There must be at least two parties to the contract, and the contract must give rise to an asset for one party and a liability or equity for the other. Compound financial instruments contain both a liability and equity component from the issuer's perspective and must be accounted for separately using split accounting, where the liability value is determined first and the residual is allocated to equity. Convertible bonds are an example of a compound instrument that is accounted for partly as a liability and partly as equity.

Uploaded by

ching
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
You are on page 1/ 20

▪A financial instrument is a contract that

gives rise to both a financial asset of one


entity and a financial liability or equity
instrument of another entity (PAS 32,
paragraph 11).
CHARACTERISTICS:
▪a. There must be a CONTRACT.
▪b. There are at least TWO PARTIES to the
contract.
▪c. The contract shall give rise to a financial
asset of one party and financial liability or
equity instrument of another party.
▪is any liability that is contractual obligation:
▪a. To deliver cash or other financial asset to
another entity.
▪b. To exchange financial instruments with
another entity under conditions that are
potentially unfavorable.
▪ is any contact that evidences a residual
interest in the assets of an entity after
deducting of all the liabilities.
▪ includes ordinary share capital,
preference share capital, warrants or
option.
▪ It is a financial instrument that contains both a
liability and an equity element from the
perspective of the issuer. (PAS 32, paragraph
28)
▪ *The issuer of a financial instrument shall
evaluate the terms of the instrument whether it
contains both a liability and an equity
component.
▪ *If the financial instrument contains both a
liability and an equity component, PAS 32
mandates that such components shall be
accounted for separately.
▪ *The approach in accounting for a compound
financial instrument is to apply "split
accounting".
Split accounting:
▪the fair value of the liability component is
first determined.
▪then, the residual amount is allocated to
the equity component.
▪Common Examples:
1. Bonds payable issued with share
warrants.
2. Convertible bonds payable
▪Share warrants are securities attached to a
bond which may be detachable or non-
detachable.
▪Detachable share warrants can be traded
separately from the bond while Non-
detachable share warrants cannot be
traded separately. Whether detachable or
nondetachable, the warrants have a value
and therefore shall be accounted for
separately.
▪ Convertible bonds are conceived as
compound financial instruments.
▪ The issuance of convertible bonds shall be
accounted for as partly liability and partly
equity.
▪ In other words, the issue price of the
convertible bonds shall be allocated
between the bonds payable and the
conversion privilege.
▪ Are those which give the holders the right
to convert their bondholdings into share
capital or other securities of the issuing
entity within a specific period of time.
▪ Convertible bonds are conceived as compound
financial instruments.
▪ Accordingly, the issuance of convertible bonds shall
be accounted for as partly liability and partly equity.
▪ Bondholders may exercise the conversion option, and in
this case, shares will have to be issued to the bondholders
as per the conversion ratio. In this case, both the equity and
liability portion accounted will be de-recognized and equity
share capital & reserves will have to be accounted for.
Note:
▪ There is no gain or loss on conversion at maturity
▪ The conversion is not considered a significant economic
transaction and therefore no gain or loss would be
recognized
▪ payment of cash to bondholders is partly liability and
partly equity.
▪Payment of convertible bonds at maturity is equal
to the face amount of bonds plus interest.
▪Valix, C., Peralta, J., Valix, C.A. (2020). Intermediate
Accounting Volume 3. Manila City, Phils. GIC
Enterprises & Co., Inc.

https://1filedownload.com/far-financial-
accounting-and-reporting-books-and-notes-
questions/

You might also like