Financial instruments and equity Flashcards
What are the two ways for a company to raise finance?
debt or equity
What is debt as a form of finance?
a contractual obligation to make a payment - the lender has the right to receive interest and repayment of amount lent to the company
What is equity as a form of finance?
a residual interest in the net assets of the entity - investor has a share of the company’s net assets
What is the nature, return, legal, investor risk, P&L, SFP and examples of debt?
- lender has lent money to company
- guaranteed interest payment
- right to receive interest and right to repayment of money invested
- low risk
- interest expense
- liability - legal obligation to pay interest and repay debt
- loans/bonds, redeemable shares, shares with fixed dividends
What is the nature, return, legal, investor risk, P&L, SFP and examples of equity?
- investor has invested money in company
- dividends paid only if profit and directors decide to
- no right to receive dividends and no right to repayment of money invested
- high risk
- dividends paid
- equity - no obligation to pay dividends or repay capital invested
- ordinary shares, irredeemable preference shares with no fixed dividend
What is a financial liability?
obligation to pay cash or financial asset
e.g. trade payables, bonds/loans payable, redeemable shares, shares with fixed dividend
How is a financial liability recognised?
Liability measured at fair value:
- quoted price (issue price for shares)
- future payments discounted to PV (not always the same as nominal/par/face value)
- costs directly attributable to issuing debt (broker fees) deducted from liability
When would a sales and repurchase be recognised as a financial liability?
when the repurchase price > original selling price
What are convertible instruments?
- loans/bonds where lender has the option to convert the debt into equity
- rather than having debt repaid in cash, they can receive shares instead
- company has a liability because obligation to make interest payments
- if lender has paid > PV of payments (FV of bond) - difference is what they have paid for equity option
How are convertible instruments recognised?
Liability measured at FV
- future payments discounted to PV
- used effective interest rate for a similar bond without conversion option (given in question)
- equity is measured as difference between what lender has paid and PV of payments
What is a financial asset?
- right to receive cash or financial asset
- equity in another entity (cash, trade receivables, bonds/loans receivable, shares in other companies)
How are financial assets recognised?
asset initially measured at FV
- quoted price
- future payments discounted to PV (not always the same as nominal/par/face value)
- costs directly attributable to acquiring asset (broker fees) capitalised
Per IAS 33, how are earnings per share recognised?
- listed companies
- earnings means profit
- deduct dividend paid on irredeemable preference shares if not included in P&L
How is earnings per share calculated?
profit / number of shares
How will a new issue at market price affect earnings per share?
include new shares from the date of issue
