Week 4 - Equity investments

Question 1

IFRS 9 ~ Equity investments
1. Holdings < 20% - FVTPL or FVTOCI

+ where to record Dividend Revenue?

Answer 1

• passive interest & investors have an option:
  1. Holding for TRADING - care about FV, thus UGL to PL {and Fair Value Adjustment}
  2. Holding for NON-TRADING - care less about FV, thus UGL to OCI
  » when selling, don’t realise any of the unrealised gains! b/c stored under Acc. OCI in Equity Stt.

Steps
1. Recognise investment at purchase price (+ transaction costs)
2. Recognise changes in fair value through P&L
Why?
- Investment is held for short-term trading, so FV is IMPORTANT
» b/c dividends are NOT CONTRACTUAL so we don’t report as “held to maturity”

But if the equity investment is not for trading (eg. for govt regulation), UGL is a BY-PRODUCT rather than an intended result.
- FV is still important but NOT a CORE OPERATING ACTIVITY
-> hence, report to OCI

*choice at recognition is irrevocable
- Dividend Revenue goes to P&L

Question 2

IFRS 9 ~ Equity investments
2. 50% < Holdings < 20% - Equity method

Answer 2

• SIGNIFICANT INFLUENCE
• care more about FINANCIAL PERFORMANCE than FV
  » as it better reflects the ECONOMIC REALITY of the investors’ influence over assets, rather than the FV which investors don’t have influence over

Steps
1. Recognise investment at purchase price (+ transaction costs)
2. Recognise changes in the investee’s assets in the investment amount
- Investor’s proportionate share of P&L increases/decreases the investment CV
- Dividend received decreases the investment CV

^Why?
- dividends are taken out of firm’s Retained Earnings
- RE = Net income - Dividends
-> more dividends paid, lower RE, the lower net assets will be!

Question 3

FRS 9 ~ Equity investments
3. Holdings > 50% - Consolidation

Answer 3

• CONTROLLING INTEREST
• investor is Parent, investee is Subsidiary
• consolidate fin stt.s, more in week 10

Question 4

Gist of the Silicon Valley Bank case

Answer 4

1. SVB invested a lot in safe government bonds (contractual CFs) using deposits
   - AMORTISED COST, no FV adjustments
2. excess cash from Covid, wars, etc. -> INFLATION RATES SOARED -> central bank INCREASED INTEREST RATES
3. hence, SVB’s bonds became less attractive… PEs and VCs began WITHDRAWING their deposits from SVB to invest in higher interest rate bonds (instead of tech firms which had difficulties borrowing cash as a result of high interest rates)
4. With HELD-TO-MATURITY assets, we only realise gains/losses on SALE. SVB didn’t have enough cash to pay ppl who were withdrawing cash.
5. SVB decided to make a share offering to raise cash but the announcement triggered panic -> BANK RUN
6. SVB had to sell more to cover withdrawals -> RECOGNITION of more LOSSES of the HTM investments (& large no. of UNINSURED deposits exacerbated issues)