The Financial Accounting Standards Board (FASB) issued a two-part proposal on Dec. 7 that addresses issues related to the complexity of applying GAAP for certain financial instruments with characteristics of liabilities and equity.
Part I of the proposed Accounting Standards Update (ASU) deals with accounting for certain equity-linked financial instruments with down-round features. Down-round features result in the strike price being reduced on the basis of the pricing of future equity offerings.
“Current accounting guidance creates cost and complexity for entities that issue financial instruments (such as warrants and convertible instruments) with down-round features that require fair value measurement of the entire instrument or conversion option,” the proposed ASU states.
Under the proposal, when determining whether certain financial instruments should be classified as liabilities or equity instruments, the entity would not consider the down-round feature when assessing whether the instrument is indexed to its own stock.
The entity would recognize the value of the effect of the down-round feature when triggered as follows:
In equity as a dividend (for a financial instrument classified as equity).
Through a charge to net income (for a financial instrument classified as a liability).
“For financial instruments with down-round features that have been triggered during the reporting period, an entity would disclose that the feature has been triggered, the value of the effect of the down-round feature being triggered, and the financial statement line item in which that effect is recorded,” the proposed ASU states.
Part II would recharacterize the indefinite deferral of certain provisions of Subtopic 480-10, Distinguishing Liabilities from Equity—Overall, that are currently presented as pending content in the FASB Accounting Standards Codification, to a scope exception. These amendments would not have an accounting effect.
“This will have the benefit of improving the readability of the Codification and reducing the cost and complexity associated with navigation of the guidance in Subtopic 480-10,” the proposed ASU states.
The comment deadline for the proposed ASU is Feb. 6, 2017. The exposure draft explains the different ways to submit comments to the FASB.