Financial Instruments: Measurement and Recognition

Question 1

How do you initially recognise a financial asset?

Answer 1

FV including transaction costs except when through P/L

Question 2

What are the three main measurement categories for financial assets and what’s typically included in them?

Answer 2

Amortised cost - loans, receivables, bonds
FVTPL - most shares
FV through OCI - shares if irrevocable election

Question 3

How are financial liabilities measured?

Answer 3

Amortised cost

FVTPL

Question 4

What are the three stages of impairment of financial assets?

Answer 4

• Recognise an allowance at the same time as debt (12m of expected credit loss) {Dr P/L, Cr Allowance}
• Review debts. If healthy, check 12m loss. If unhealthy allowance becomes lifetime expected credit losses. {Dr P/L, Cr allowance}
• Evidence debt is bad and write off {Dr P/L, Cr Allowance, Cr Loan}

Question 5

What is the criteria for hedge accounting?

Answer 5

• Eligible hedging Instruments and eligible hedged items
• At inception, there is formal designation and documentation of hedging relationship and entity’s risk management objective
• Meets all of the hedge effectiveness requirements

Question 6

How do you initially recognise a financial liability?

Answer 6

FV

Question 7

How would you account for an interest free loan to employees?

Answer 7

FV: measure at PV at the market interest rate

Dr Loan (discounted value)
Dr Finance costs
Cr Cash Paid

Question 8

What is the contractual cashflow test?

Answer 8

The contractual terms of the financial asset give rise on specified dates, to cashflows that are solely payments of principal and interest

Question 9

What is the business model test?

Answer 9

The business intends to hold the assets in order to collect contractual cashflows as opposed to selling the asset

Question 10

What is the effectiveness criteria?

Answer 10

• credit risk does not dominate the relationship
• hedge ratio of items and instrument is the same
• economic relationship between item and instrument

Question 11

What is the aim of hedging?

Answer 11

Reduce volatility

Question 12

If you cannot hedge account, how do you account for it?

Answer 12

Through a speculative derivative

Question 13

What is the Dr and Cr for a $5,000 gain for speculative trading?

Answer 13

FVTPL
Dr Financial asset
Cr P/L

Question 14

What is the Dr and Cr for a $5,000 loss for speculative trading?

Answer 14

FVTPL
Dr P/L
Cr Financial liability

Question 15

What is the Dr and Cr for a $5,000 gain used for physical delivery?

Answer 15

Part of normal trading - do nothing.

Recognise at purchase or sale.

IF YOU ARE GOING TO USE IN NORMAL COURSE OF BUSINESS

Question 16

What is the Dr and Cr for a $5,000 gain for a FV hedge?

Answer 16

Protecting value fo the item. Recognised asset or liability.

Hedging Instrument:
Dr Financial Asset
Cr P/L

Hedged Item:
Break normal a/c rules and Revalue to P/L

Question 17

What is the Dr and Cr for a $5,000 gain for cashflow hedging? (Ineffective Loss is of $4,900)

Answer 17

Protecting a future cashflow (e.g. supply price of coffee)
Dr Financial Asset $5,000
Cr OCI $4,900 (effective)
Cr P/L $100 (ineffective)

Question 18

What are the characteristics of a derivative?

Answer 18

• little or no investment
• derives value from some underlying item
• settled at a future date

Question 19

How are derivatives accounted for?

Answer 19

Fair value through profit or loss

Question 20

When a financial asset is derecognised, how is it accounted for? (When valued as FV through OCI)

Answer 20

Gains and losses recognised in OCI are reclassified to P/L

Question 21

When does a financial asset qualify for derecognition?

Answer 21

• once the entity has transferred the contractual rights to receive the cashflows
• retained the contractual rights but has an unavoidable obligation to pass on the cashflows to a third party

Question 22

The substance of the disposal needs to consider what?

Answer 22

Risks and rewards of ownership

Question 23

How is a financial guarantee contract subsequently measured?

Answer 23

At the higher of:

• the amount of the loss allowance (IFRS 9)
• the amount initially recognised less the cumulative amount of income (IFRS 15)