Financial instruments with characteristics of equity

Date recorded:

Cover Paper (Agenda Paper 5)


The Board is currently discussing the feedback received on the Discussion Paper Financial Instruments with Characteristics of Equity (DP) that was published in June 2018. In this session, the staff will provide a detailed summary of the feedback received on presentation, disclosures, contractual terms, objective, scope and challenges.

The Board is not asked to make any decisions at this meeting and hence, the papers do not contain any staff recommendations.

This summary does not repeat the contents of the DP. For a detailed summary of the DP, please refer to our IFRS in Focus.

Summary of feedback—presentation of financial liabilities (Agenda Paper 5A)

Key messages from respondents

Statement of financial position

Although many of the respondents that commented on the question about presentation in the statement of financial position disagreed, some agreed with presenting separately the carrying amounts of certain financial instruments (see DP).

Statement of financial performance

Some of the respondents that commented on the question about presentation in the statement of financial performance, agreed with presenting income and expenses arising from certain financial instruments (see DP) in other comprehensive income (OCI) without subsequent reclassification. However, many respondents disagreed and their views can be categorised as follows:

  • a) not in favour of non-recycling of OCI.
  • b) concerns expressed on the proposals related to partly independent derivatives. Mainly, they suggested that:
    • the proposals should only apply to liabilities that are solely dependent on the entity’s available economic resources;
    • there is a concern with the criterion that derivatives where the only independent variable is a foreign currency need to have an external factor imposing the denomination in the foreign currency; or
    • a disaggregation approach is better.
  • c) not supportive of presentation in OCI. In summary, these respondents preferred either:
    • separate presentation in profit or loss;
    • disclosures in the notes to the financial statements.

Separation of embedded derivatives

Regarding the proposal to require separation of embedded derivatives from hybrid instruments measured at fair value through profit or loss for presentation purposes, most respondents supported Alternative A, i.e. the separate presentation requirements should apply only to embedded derivatives that are separated from the host and hybrid instruments that do not contain any obligation for an amount independent of the entity’s available economic resources. They believe Alternative B, i.e. applying the separate presentation requirements to all embedded derivatives, is too complex, costly and would negate the 'practical relief' under the fair value option in IFRS 9 to measure the entire instrument at fair value through profit or loss.

Board discussion

Agenda Papers 5A, 5B and 5C were discussed together.

Board members were surprised with some of the feedback received on the DP. Especially the lack of support for the separate presentation of financial liabilities was questioned, as respondents stated that the classification of a financial instrument would provide sufficient information for users.

Many items of concern for respondents were based on the rejection of the amount feature. Board members asked whether those who rejected the amount feature have also commented on subsequent issues that are based on the amount feature. The staff confirmed this and said that respondents made clear they rejected the amount feature, but then went on to comment on other topics under the assumption that the Board would continue with the amount feature.

One Board member suggested to analyse more granularly why respondents rejected the amount feature. In her view, this could be a problem with articulation or also the fact that the Board stated that introducing the amount feature would be a limited amendment, with which many respondents disagreed. The Board member acknowledged that given the feedback of respondents, introducing that feature could result in a significant rewrite of IAS 32.

With regards to attribution of total comprehensive income, one Board member said that he was not surprised by the lack of support amongst respondents as the Board itself had been struggling with this issue in the discussions leading up to the DP.

One Board member suggested that the staff analyse the feedback based on a table or flow chart as the feedback from respondents was very fragmented. That Board member said they would like to see the arguments that flowed through the comment letters.

Disclosures and presentation of equity instruments (Agenda Paper 5B)

Key messages from respondents

Would the attribution of total comprehensive income to equity instruments other than ordinary shares provide useful information?

Many respondents agreed with the Board that it would be useful for investors to have information about the distribution of returns among the different types of equity instruments and supported the objective of the presentation proposals for equity instruments. However, most respondents were not supportive of any of the attribution approaches for derivative equity instruments proposed in the DP because they believed the benefits of the resulting information would not outweigh the cost of preparation. Many respondents’ feedback on this topic focused on the proposals for derivative equity instruments. Out of the respondents who provided specific feedback on the attribution proposals for non-derivative equity instruments, some supported the proposals for non-derivative equity instruments. Most respondents who supported the proposals for non-derivative equity instruments did so despite not supporting the proposals for derivative equity instruments.

What do respondents propose instead to improve information provided about financial instruments issued?

Many respondents suggested that rather than developing an attribution approach for derivative equity instruments, the Board pursue a disclosure solution instead. In their view, the disclosures proposed in the DP, along with the information already required by IAS 33 would be sufficient in meeting the Board’s objective of providing useful information about equity instruments. However, some respondents also suggested that IAS 33 requirements could be improved and encouraged the Board to do some further work in this regard.

Do respondents support the proposed disclosures for financial liabilities and equity?

Most respondents were broadly supportive of the disclosure proposals for financial liabilities and equity. However, some highlighted potential challenges and suggested solutions for the Board to consider.

Feedback summary—Contractual Terms (Agenda Paper 5C)

Key messages from respondents

Should economic incentives be considered when classifying a financial instrument as a financial liability or an equity instrument?

Most respondents agreed with the Board’s preliminary view that economic incentives that might influence the issuer’s decision to exercise its rights should not be considered when classifying a financial instrument as a financial liability or an equity instrument.

Should the IAS 32 requirements on indirect obligations should be retained?

Most respondents agreed with the Board’s preliminary view that the requirements in IAS 32:20 for indirect obligations should be retained.

Should classification of financial instruments be based on the contractual terms without considering the effects of laws and regulations?

Most respondents agreed with the Board’s preliminary view that an entity shall apply the Board’s preferred approach to the contractual terms of a financial instrument consistently with the existing scope of IAS 32.

In addition, many respondents highlighted practice challenges that exist in these areas and recommended the Board analyse the challenges further and provide clarification or guidance. In fact, regardless of whether respondents agreed or disagreed with the Board’s preliminary views set out in the DP, they requested clarification or additional guidance on these areas.

Summary of feedback: users of financial statements (Agenda Paper 5D)

Overall comments on the DP

  • A few users acknowledged that there will be a trade-off between costs and benefits, i.e. complexity vs transparency in making changes to IAS 32.
  • Most users supported the additional disclosures proposed in the DP, particularly the disclosures relating to terms and conditions of financial liabilities and equity instruments
  • There was limited support for the attribution of total comprehensive income to classes of equity instruments, in particular derivative equity instruments, with most users citing complexity as the main drawback.
  • Most users supported the separate presentation of financial liabilities that have equity-like returns but there were mixed views on whether these returns should be presented in OCI or within profit or loss using a separate line item and if presented in OCI, whether gains or losses should be recycled to profit or loss when these liabilities are settled.
  • Limited feedback was provided on the classification proposals.
  • A few users questioned the scope of the project and its interaction with other IFRS Standards.

Comments on specific sections of the DP

Users also commented on the following specific items:

  • Presentation: Attribution of total comprehensive income to equity instruments
  • Presentation: Financial liabilities with equity-like returns
  • Disclosure: Priority of claims on liquidation
  • Disclosure: Terms and conditions
  • Classification: non-derivative financial instruments
  • Classification: Other issues

For the detailed feedback on those items, please refer to the agenda paper.

Board discussion

The Board discussed hybrid instruments. The Vice-Chair acknowledged that respondents feared market disruption by new accounting requirements for hybrid instruments. Those instruments were designed in a way so that they achieve certain effects, for example with regard to ratings, tax, regulatory or accounting. She acknowledged that it would impact issuers if the accounting treatment for those instruments changed, but said that this fact alone should not influence any decisions made by the Board. She suggested to have a detailed discussion of the issues around hybrid instruments with investors. A Board member said it would already be an achievement to have all information on those instruments in one place.

One Board member appreciated the  from the fact that investors were very open in their comments on the topic. In particular, making it clear that they have difficulty in understanding the issues under discussion. That Board Member was concerned about the complexity that would be imposed on preparers.

Comment letter feedback—Overall objective, scope and challenges (Agenda Paper 5E)

Key messages

Do respondents agree with the challenges and their causes identified by the Board?

Almost all respondents agreed with the challenges identified by the Board. Many respondents also highlighted other challenges they think the Board should address in addition to those identified by the Board.

Do respondents agree that the challenges identified warrant standard-setting?

Almost all respondents supported the Board developing a standard-level solution to address the challenges identified. However, these respondents suggested a wide range of different directions for the project:

  • a) Many respondents suggested making targeted improvements to IAS 32 by amending, clarifying or adding guidance to IAS 32.
  • b) Some respondents suggested undertaking a fundamental review to develop an approach to distinguishing liabilities from equity.
  • c) Some respondents supported the Board pursuing a principles-based solution. Some of these respondents suggested proceeding with the Board’s preferred approach to classification subject to clarification of the new terminology used or a closer alignment of terminology and/or the classification outcomes with IAS 32. Some other respondents suggested more significant modifications to the Board’s preferred approach to classification.
  • d) A few respondents suggested a disclosure-only approach.

Board discussion

The Board discussed the different approaches suggested by respondents. The staff noted that additional disclosures were the only common ground between the approaches. The Board members, however, ruled out a disclosure-only approach. One Board member suggested a 2-step approach, i.e. developing disclosures first and then developing principles for classification. For classification, a Board member suggested to start with the definition of a liability and the recognition criteria in the Conceptual Framework, and then develop the principles for classification from there. It was also suggested to stop looking at any issues that are not fundamental.

Board members noted that if the amount feature is the problem, it should either be reworked, or, as the Vice-Chair suggested, use the logic behind the amount feature to develop sound classification principles, but not introduce the amount feature as a principle of its own.

One Board member said that it was evident from the comment letters that many respondents are afraid of having to analyse their entire stock of financial instruments in the course of which many instruments would have to be reclassified. That is why there is a strong call for targeted improvements. Board members noted that there was no common understanding of what targeted improvements could mean. If the Board could have fixed the issues through narrow-scope amendments, it would have done so. Instead, the Board decided that it would have to start a comprehensive project, which includes the introduction of new principles, at least for some of the issues under discussion. When questioned by the Board as to which were the most pressing issues, the staff confirmed that the fixed-for-fixed condition, NCI puts and contingent settlement requirements proved most difficult. The Vice-Chair added that work needs to be done in the area of hybrid instruments.

Board members said that the clear mandate for standard-setting should be enough for the Board to continue the project. It was clear that the scope of the DP was too comprehensive for respondents, but that a common ground would have to be found. Board members suggested that staff provide a more thorough analysis of the feedback once the Board has decided which approach it would like to pursue.

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