Chapter 12 - Financial Instruments Flashcards
Financial assets - FVPL vs FVOCI = how do you account for costs
IR
FVPL = Expensed in PI
FVOCI = Include costs in IR (FV plus transaction costs)
Amortised cost= include costs
What is a compound instrument
One that has the characteristics of both financial liability and equity.
Example of a compound instrument
issue of a bond that allows the holders to request redemption in the form of cash or a fixed no. of equity shares
Issued vs purchased
Purchased is asset
issued is liability
Impairment IFRS 9
Uses an expected loss approach to impairment accounting. what we think we wont get.
apply to debt instruments = fvoci or amortised costs
help to not over/under state assets
changes in value - incr or decr = goes to PL
Credit loss
PV of the diff between the contractual cf due to an entity and cf that it is expected to receive
due = what you should receive expects = actually receive
How to work out the liability and equity component
The initial carrying amount of the liability component is calculated as the present
value of the cash repayments, discounted using the market rate on non-convertible
bonds. The equity component is the difference between the cash received and the
liability component at the issue date.
Liability and equity component
- a liability component (the obligation to repay cash)
* an equity component (the obligation to issue a fixed number of shares).
Impairment loss
entities must calculate a loss allowance
applies to debt instruments measured at amortised costs or at FVOCI
Credit loss
the pv of the diff between contractual cash flow due to an entity and the cash flow that it expects to recievce
expected credit loss
weighted average credit loss
lifetime expected credit loss
expected credit losses that result from all possible default events
12 month expected credit loss
proportion of lifetime expected credit losses that arise from default events within 12 months of reporting date
events that suggest an asset is credit impaired
sign financial diff of the issuer or borrower
breach of contract such as default
the borrower being granted concessions
becoming probable that the borrower will enter bankruptcy
How to work out interest income if an asset is credit impaired
assets net carrying amount = gross amount - loss allowance
Accounting for loss allowance - measured at amortised cost
Dr P/L Cr Allowance (SFP)
Allowance account reduced the net carrying amount of the financial asset
Accounting for loss allowance - measured at FVOCI
Dr P/L
Cr OCI
We do not touch the financial asset in the SFP as it is already at its FV
Derecognition - financial liability
when the obligation is EXTINGUISHED
- is discharged
- Is cancelled
- expires
diff between consideration and CA is recognised in PL
Derecognition - financial asset
- Contractual rights to CF expire
- entity transfers substantially all of the risk and rewards of FA to another party
diff between consideration and CA is recognised in PL
Derivatives
Value of a contract which is derived from a value of an underlying asset.
A derivative is a financial instrument whose value changes in relation to changes in a variable, such as an interest rate, commodity price, credit rating, or foreign exchange rate. There are two key concepts in the accounting for derivatives. The first is that ongoing changes in the fair value of derivatives not used in hedging arrangements are generally recognized in earnings at once. The second is that ongoing changes in the fair value of derivatives and the hedged items with which they are paired may be parked in other comprehensive income for a period of time, thereby removing them from the basic earnings reported by a business.
Characteristic of a derivate
- its value changes in response to the value changes of an underlying item (eg commodity prices)
- requires little or no investment
it is settled at a future date
eg of a derivate
future, interest rate swaps and options
such as an interest rate, commodity price, credit rating, or foreign exchange rate.
derivatives are measured through..
FVPL
Initially at FV - costs expensed to pl
subs - remeasured to FV at each reporting date with gain/loss in SPL
EMBEDDED derivatives
component of a contract that includes a non-derivate host and which affects CF in a similar way to a standard derivative
hedge accounting
used to manage the problems with derivates.
derivates provide huge volatility in SPL
EG payment of 5m in EUR. so it will cost you 5m EUR go in a contract to manage spend and interest rate. would be worried about interest rate changes so prob is we have changes in the FV which is all going through PL. Derivate is the forward contract.
Hedge accounting is a method of accounting where entries to adjust the fair value of a security and its opposing hedge are treated as one. Hedge accounting attempts to reduce the volatility created by the repeated adjustment to a financial instrument’s value, known as fair value accounting or mark to market. This reduced volatility is done by combining the instrument and the hedge as one entry, which offsets the opposing’s movements.
hedge acc is a
optional set of rules which if applied could have or reduce the volatility of the derivate.
hedge acc is optional but
if go ahead if the criteria is met
an entity that choses to hedge acc must document the following:
- the hedge item: asset to buy in diners for eg. - it is the reason
- the hedge instrument: the derivate itself
- the risk
2 types of hedge acc that are examable for IFRS9
Fair value hedge: movement in FV. Eg forward contract in 6 months time
cash flow hedge: movement in cash flow. protect yourself from future cash flow.
look in the detail. if you are protecting yourself from asset or liab = FV hedge. if your protecting from CF = it is cash flow hedge
Any gain on hedged item and loss
on hedging instrument (or vice versa) will largely be offset in either PL or OCI meaning that the volatility is reduced.
CF hedge
no entries are posted for the hedged item - the trans hasnt happened
