Liabilities and Equity
Staff introduced the session by reminding Board members that it had been asked to analyse an approach where redeemable instruments were divided into two categories:
- Instruments that are redeemable upon the occurrence of an event that is certain to occur (such as death or retirement)
- All other redeemable instruments
The staff asked the Board the following questions:
Q1. Does the Board agree that instruments that are redeemable at the option of the issuer (callable instruments) are perpetual?
The Board agreed provided the instrument has no other feature of a financial liability.
Q2. Does the Board agree that instruments that are redeemable at the option of the holder or that are required to be redeemed only upon the holder's retirement or death should be classified as equity?
Staff clarified on request that the redemption price was not relevant for this criterion. Board members noted that such an instrument could possibly not provide any kind of equity return, but would still be classified as equity. This was also extended to limited life entities, but this discussion was deferred to a later question.
In the end the Board agreed.
Q3. Does the Board agree that instruments that are required to be redeemed on a specific date, in a range of dates, or upon an event that is certain to occur (except for retirement or death) should be classified as liabilities?
The Board agreed.
Q4. Does the Board agree that instruments that are required to be redeemed upon an event that is not certain to occur should be classified as liabilities?
Some Board members asked what the difference to the scenario in question 2 (see above) was. Another Board member believed that in this situation only bifurcation of the instrument produces a sensible outcome. The Board did not provide a definite position on this question as it interacted with the next question
Q5. Does the Board agree that instruments that are redeemable at the option of the holder (except upon death or retirement) should be classified as liabilities?
The chairman asked whether this would resolve the issue with puttable instruments in Germany. It was clear from the staff analysis that it did not. One Board member noted that the staff could try to expose this, but would get significant pushback from constituents on this point. This Board member gained support for his idea that the issue could be resolved by splitting out the embedded written put option. After some debate, the Board agreed that on questions 4+5 the staff would bring back an analysis on a bifurcation approach.
Q6. Are there other types of instruments that are redeemable (mandatorily or at the option of the holder) that the Board thinks should be classified as equity?
Board members mentioned shares of limited life entities that should be treated as equity. The staff was also asked to analyse the situation where the shareholders could trigger liquidation of an entity.