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Financial Instruments with Characteristics of Equity

Date recorded:

The Board continued its discussions on developing the proposals for an Exposure Draft on financial instruments with the characteristics of equity. At this meeting the staff sought for the Board's input on classification of puttable and mandatorily redeemable instruments (thereafter 'redeemable instruments') with the characteristics of equity. The staff identified four possible alternatives for the accounting treatment of such instruments:

  • All perpetual and some redeemable instruments are classified as equity
  • Separate redeemable instruments into equity and non-equity components
  • Develop rules on which instruments are to be classified as equity
  • Classify all redeemable instruments as liabilities.

Before the actual staff proposals were discussed, one staff member presented an alternative approach to addressing redeemable instruments. It was noted that this approach involves two steps: firstly, identifying what is to be recognised and, as a second step, deciding how the 'things' that qualify for recognition are to be classified.

The staff member noted that the following 'things' would potentially be eligible for recognition in financial statements:

  • Rights of other parties to compel an entity to take actions it would otherwise not take for no (additional) compensation
  • Ownership or property rights in the entity held by other parties
  • Any amounts of assets in excess of what would be required to satisfy the items in the previous two points (this could occur in co-operative, mutual entities, etc.)

On the issue of classification criteria it was noted that the staff member's approach was based only on one factor: subordination. The staff member highlighted that two issues were already identified where this criterion would have to be further developed: consolidation and anti-abuse provisions).

The Board had a lively debate on the approach. One Board member asked whether the staff member would see a puttable instrument as more or less subordinated as a perpetual instrument. It emerged that much of this discussion was depending on the definition of subordination. The Board continued to debate whether a further distinction between what triggers redemption was helpful (that is, does redemption occur during specified period/at a specified date or on occurrence of a specific event). It was noted that puttable instruments (at fair value, a formula or book value) must also be considered in the analysis. One Board member remarked that splitting out the put option might be the only way to come to a satisfying answer.

The Board did not conclude on the approach, but staff was directed to continue developing the approach addressing the issues discussed at this meeting.

The staff then continued to address its main proposals. After short debate the Board decided to defer discussion on the staff proposals until the alternative approach was deliberated as it concluded that further discussions would not make sense at this point.