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Investments in equity securities (after adoption of IFRS 9 and ASU 2016-01) — Key differences between U.S. GAAP and IFRSs

In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, which amends the guidance in U.S. GAAP on the classification and measurement of financial instruments. Although the ASU retained many current requirements, it significantly revised an entity’s accounting related to the classification and measurement of investments in equity securities. For public business entities, the ASU is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2017. For all other entities, it is effective for fiscal years beginning after December 15, 2018, and interim periods within fiscal years beginning after December 15, 2019.

IFRS 9, Financial Instruments, which was issued in November 2009 and most recently amended in July 2014, is effective for annual periods beginning on or after January 1, 2018, although entities can elect to apply it earlier. IFRS 9 supersedes IAS 39, Financial Instruments: Recognition and Measurement. It is assumed that an entity is applying IFRS 9 and ASU 2016-01.

For key differences between U.S. GAAP and IFRSs in the accounting for investments in debt and equity securities before adoption of IFRS 9 and ASU 2016-01, click here.

For entities that have adopted ASU 2016-01, ASC 321 is the primary source of guidance on the accounting for investments in equity securities under U.S. GAAP.

Under IFRSs, IFRS 9 is the primary source of guidance on the recognition and measurement of financial assets and financial liabilities, including investments in equity securities.

This comparison focuses on differences between U.S. GAAP and IFRSs in the accounting for investments in equity securities. It does not discuss the accounting for loan receivables, investments in debt instruments, and equity method investments. It does not discuss the accounting for loan receivables, investments in debt instruments, and equity method investments. Click here for a list of comparisons addressing these and other financial instruments and transactions within the scope of IFRS 9.

The table below summarizes the key differences between U.S. GAAP and IFRSs in the accounting for investments in equity securities. It is followed by a detailed explanation of each difference.1

Subject

U.S. GAAP

IFRSs

Initial recognition — trade-date versus settlement-date accounting

ASC 321 does not provide guidance on whether an equity security should be initially recognized on a trade-date or settlement-date basis. An entity’s accounting often depends on the industry in which it operates.

An entity may elect as an accounting policy to apply trade-date or settlement-date accounting to each classification of financial asset defined in IFRS 9. However, trade-date or settlement-date accounting must be applied consistently to all financial assets in the same classification category.

Initial recognition — accounting for changes in value between the trade date and settlement date

ASC 321 does not provide guidance on accounting for a change in value of an equity security between its trade date and settlement date.

If a financial asset is initially recognized on its settlement date, any changes in fair value of the asset to be received that occur between the trade date and settlement date should be accounted for in the same way as changes in value that will be recognized once the asset is received.

Classification and measurement

ASC 321 requires investments in equity securities (except those accounted for under the equity method of accounting or those related to a consolidated investee) to be measured at fair value, with changes in fair value recognized in net income.

However, an entity may elect to measure equity securities that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or similar investment of the same entity.2

Further, an entity may elect to apply a practical expedient in measuring the fair value of investments in certain entities that calculate NAV per share on the basis of NAV per share as of the measurement date.

IFRS 9 requires investments in equity instruments (except those accounted for under the equity method of accounting or those related to a consolidated investee) to be measured at fair value, with changes in fair value recognized in profit or loss, except for a qualifying investment (1) that is not held for trading and (2) that the holder elects at initial recognition to account for at fair value through other comprehensive income (FVTOCI). An investment in an equity instrument that has been designated as FVTOCI cannot be reclassified to fair value through profit or loss (FVTPL). Further, fair value gains and losses recognized in other comprehensive income (OCI) for such investments cannot be subsequently transferred to profit or loss.

In limited circumstances, IFRS 9 permits an entity to use cost as an appropriate estimate of fair value for unquoted equity investments.

Impairment

ASC 321 contains impairment guidance on equity investments for which an entity has elected the practicability exception from fair value measurement. Entities assess such equity investments for impairment by qualitatively considering certain indicators.

Under IFRSs, there is no assessment of impairment for equity investments within the scope of IFRS 9.

Initial Recognition

Trade-Date Versus Settlement-Date Accounting

Under U.S. GAAP, ASC 321 does not provide guidance on whether the acquisition of an equity security should be recognized on a trade-date or settlement-date basis. Whether a particular entity applies trade-date or settlement-date accounting often depends on the industry in which the entity operates. For example, broker-dealers subject to ASC 940-320-25-1 must account for all regular-way securities transactions on a trade-date basis. In addition, the following accounting guidance indicates that trade-date accounting is required for regular-way security trades:

  • ASC 942-325-25-2, Financial Services — Depository and Lending: Investments — Other.
  • ASC 946-320-25-1, Financial Services — Investment Companies: Investments — Debt and Equity Securities.
  • ASC 960-325-25-1, Plan Accounting — Defined Benefit Pension Plans: Investments — Other.
  • ASC 962-325-25-1, Plan Accounting — Defined Contribution Pension Plans: Investments — Other.

Further, ASC 815-10-15-141 and ASC 815-10-35-6 provide special guidance on purchases of nonderivative securities that will be accounted for under ASC 321 if the purchase contract (1) is either a purchased option contract with no intrinsic value at acquisition or a forward contract, (2) requires physical settlement by delivery of the security, and (3) is not a derivative instrument within the scope of ASC 815. If the purchase contract is a forward, the purchase is recognized on the settlement date. If the purchase contract is an option, the purchase is recognized on the exercise date.

Under IFRSs, IFRS 9 indicates that an entity may elect as an accounting policy to apply trade-date or settlement-date accounting to each category of financial assets (i.e., amortized cost, FVTOCI, and FVTPL). Specifically, paragraph B3.1.3 of IFRS 9 states the following:

A regular way purchase or sale of financial assets is recognised using either trade date accounting or settlement date accounting . . . . An entity shall apply the same method consistently for all purchases and sales of financial assets that are classified in the same way in accordance with [IFRS 9]. For this purpose assets that are mandatorily measured at [FVTPL] form a separate classification from assets designated as measured at [FVTPL]. In addition, investments in equity instruments accounted for using the [FVTOCI] option . . . form a separate classification.

For example, under IFRSs, an entity may elect to recognize financial assets that are accounted for at FVTOCI on a settlement-date basis but elect to recognize financial assets that are accounted for at FVTPL on a trade-date basis.

Accounting for Changes in Value Between the Trade Date and Settlement Date

Under U.S. GAAP, as discussed above, ASC 321 does not provide guidance on whether an entity should follow trade-date or settlement-date accounting when recognizing the acquisition of a security, although certain other accounting pronouncements require trade-date or settlement-date accounting. ASC 321 also does not provide guidance on accounting for the change in value of a security between its trade date and settlement date if the security is initially recognized on a settlement-date basis.

However, under ASC 321, for purchases of nonderivative securities that qualify under ASC 815-10-15-141, as discussed above, ASC 815-10-25-18 and ASC 815-10-35-6 require that changes in the fair value of forward contracts and purchase options on equity securities be accounted for in a manner similar to how the underlying equity security will be accounted for once the contract is settled.

Under IFRSs, IFRS 9 allows an entity to elect to apply trade-date or settlement-date accounting to each category of financial assets. An entity that elects to initially recognize a financial asset on its settlement date must still account for changes in value between the trade date and settlement date in accordance with how the entity will account for the financial asset once it is acquired. Specifically, paragraph B3.1.6 of IFRS 9 states, in part:

When settlement date accounting is applied an entity accounts for any change in the fair value of the asset to be received during the period between the trade date and the settlement date in the same way as it accounts for the acquired asset. In other words, the change in value is not recognised for assets measured at amortised cost; it is recognised in profit or loss for assets classified as financial assets measured at [FVTPL]; and it is recognised in [OCI] for financial assets measured at [FVTOCI] in accordance with paragraph 4.1.2A and for investments in equity instruments accounted for in accordance with paragraph 5.7.5.

Classification and Measurement

Under U.S. GAAP, ASC 321 requires entities to measure investments in equity securities (including other ownership interests such as partnerships, unincorporated joint ventures, and limited liability companies) at fair value through net income (FVTNI) except for investments without a readily determinable fair value for which the entity has elected an exception from fair value measurement. These requirements do not apply to investments outside the scope of ASC 321, including those that (1) qualify for the equity method of accounting or (2) result in consolidation of the investee. Under ASC 321 equity instruments cannot be measured at FVTOCI.

Under U.S. GAAP, an entity can elect to apply a practical expedient in measuring the fair value of investments in certain entities that calculate NAV per share on the basis of NAV per share as of the measurement date (ASC 820-10-35-59). For investments in equity securities without a readily determinable fair value that do not qualify for the NAV practical expedient, an entity is permitted to elect to measure the investment at cost less impairment plus or minus observable price changes (in orderly transactions) of an identical or similar investment of the same issuer.

Under IFRSs, IFRS 9 requires investments in equity instruments to be accounted for at FVTPL unless the investment is not held for trading, and the holder elects at initial recognition to account for it at FVTOCI in accordance with paragraph 5.7.5 of IFRS 9. Investments in equity instruments that are designated as at FVTOCI at initial recognition cannot be reclassified because the designation is irrevocable (paragraphs 5.7.5 and BC5.25(d) of IFRS 9). Further, IFRS 9 prohibits “recycling” to profit or loss of amounts initially recognized in OCI for investments in equity instruments that an entity has designated as FVTOCI (paragraph B5.7.1 of IFRS 9). These requirements do not apply to investments outside the scope of IFRS 9, including those that are (1) accounted for under the equity method of accounting in accordance with IAS 28, Investments in Associates, or (2) related to an entity that is consolidated.

IFRSs do not contain (1) any practical expedient in measuring the fair value of investments in entities that calculate NAV per share or (2) any elective exception from the fair value measurement requirement for investments in equity securities without a readily determinable fair value. However, IFRS 9 suggests that in limited circumstances, cost may be an appropriate estimate of fair value for an unquoted equity investment. This may be the case if sufficient and more recent information is not available to measure fair value, or if there is a wide range of possible fair value measurements and cost represents the best estimate of fair value within that range. Paragraph B5.2.6 of IFRS 9 states that “[c]ost is never the best estimate of fair value for investments in quoted equity instruments (or contracts on quoted equity instruments).” Further, paragraph B5.2.4 of IFRS 9 states the following:

Indicators that cost might not be representative of fair value include:

a. a significant change in the performance of the investee compared with budgets, plans or milestones.
b. changes in expectation that the investee’s technical product milestones will be achieved.
c. a significant change in the market for the investee’s equity or its products or potential products.
d. a significant change in the global economy or the economic environment in which the investee operates.
e. a significant change in the performance of comparable entities, or in the valuations implied by the overall market.
f. internal matters of the investee such as fraud, commercial disputes, litigation, changes in management or strategy.
g. evidence from external transactions in the investee’s equity, either by the investee (such as a fresh issue of equity), or by transfers of equity instruments between third parties.

This list is not exhaustive. An entity is required to use all information about the performance and operations of the investee that becomes available after the date of initial recognition. To the extent that any relevant factors indicate that cost may not be representative of fair value, the entity is required to measure fair value. Further, the IASB noted that for particular entities, such as financial institutions and investment funds, the cost of equity investments cannot be considered representative of fair value.

Impairment

Under U.S. GAAP, investments in equity securities that are required to be measured at FVTNI are not evaluated for impairment. However, for an equity investment for which an entity has elected the practicability exception in ASC 321 of measuring the investment at cost less impairment, plus or minus observable price changes of an identical or similar investment of the same issuer as of each reporting period, the entity qualitatively considers the following indicators in ASC 321-10-35-3 to determine whether the investment is impaired:

  1. A significant deterioration in the earnings performance, credit rating, asset quality, or business prospects of the investee
  2. A significant adverse change in the regulatory, economic, or technological environment of the investee
  3. A significant adverse change in the general market condition of either the geographical area or the industry in which the investee operates
  4. A bona fide offer to purchase, an offer by the investee to sell, or a completed auction process for the same or similar investment for an amount less than the carrying amount of that investment
  5. Factors that raise significant concerns about the investee’s ability to continue as a going concern, such as negative cash flows from operations, working capital deficiencies, or noncompliance with statutory capital requirements or debt covenants.

If an entity determines that the investment is impaired on the basis of this qualitative assessment, the entity is required to estimate the fair value of the investment and recognize an impairment loss equal to the amount by which the security’s carrying amount exceeds its fair value.

Under IFRSs, investments in equity instruments are not evaluated for impairment.

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1 Differences are based on comparison of authoritative literature under U.S. GAAP and IFRSs and do not necessarily include interpretations of such literature.

2 The exception is not available to investment companies, broker-dealers, defined benefit plans, and investors in equity investments that apply the net asset value (NAV) practical expedient under ASC 820-10-35-59.

Correction list for hyphenation

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