Compound financial instruments

Question 1

Convertible debentures/bonds

Answer 1

Debentures or bonds with fixed interest payments, if convertible into a fixed number of ordinary shares on a specific date (at the option of the holder or compulsory conversion).
If conversion is at the option of the holder and the holder does not choose conversion into ordinary shares, the capital amount of the debentures / bonds will be redeemed

Question 2

Initial recognition: compound interest

Answer 2

Issuer split compound instrument into 2 components and classify separately as liability and equity.

Question 3

convertible preference shares:

Answer 3

Preference shares with fixed payments in the form of compulsory dividends, if convertible into a fixed number of ordinary shares on a specific date (at the option of the holder or compulsory conversion).
If conversion is at the option of the holder and the holder does not choose conversion into ordinary shares, the contract has to specify if:
the capital amount of the preference shares will be redeemed, or
the preference shares will continue in perpetuity

Question 4

Step 1 in initial recognition: recognizing compound interest.

Answer 4

Determine fair value (FV) of the entire instrument (issue price)

Question 5

Step 2 in initial recognition: recognizing compound interest.

Answer 5

Determine FV of LIABILITY component: cash flows from compulsory payments discounted at a discount rate for non-convertible financial instruments with similar rights.

Question 6

Step 3 in initial recognition: recognizing compound interest.

Answer 6

Determine FV of EQUITY component = FV of the entire instrument – liability component (therefore the remaining value).

Question 7

Can holder have compound instrument?

Answer 7

No, holder can only have a financial asset.

Question 8

If there is compulsory conversion in ordinary shares then?

Answer 8

Fair Value (FV) = 0

Question 9

If conversion is at the option of the holder , then?

Answer 9

Fair Value (FV) = capital amount