Int. Acc. FA LECT 5&6: CH 16 part 1: Dilutive securities and EPS …
Int. Acc. FA LECT 5&6: CH 16 part 1: Dilutive securities and EPS
Chapter 16 – Dilutive securities
(Accounting for) share compensation
Convertible preference shares
Simple capital structure
Complex capital structure
Recall: Liability = An obligation arising from past events, the settlement of which is expected to result in an outflow of resources
Certain types of financial instruments aren’t easily classified as equity or liability.
Other convertible securities (options, warrants).
Dilutive: upon exercise they may reduce (dilute) EPS
Reasons for corporations to issue convertible debt:
Obtain debt financing at cheaper rates.
Raise equity capital without giving up more ownership
control than necessary
bonds that can be changed into other corporate securities.
Benefit of bonds (guaranteed interest and principal)
Holder has the option to change it for shares
Describe the accounting for convertible securities (issuance, conversion, retirement).
Convertible debt is accounted for as a compound instrument. Companies use the
to value compound instruments.
Implementation of the
Second, determine liability component by computing net present value of all contractual future cash flows discounted at the market rate of interest.
Finally, subtract liability component estimated in second step from fair value of convertible debt (issue proceeds) to arrive at the equity component.
First, determine total fair value of convertible debt with both liability and equity component (proceeds).
Accounting for convertible debt (II)
Does not represent ownership!
Share premium – conversion equity
is a very specific reserve that can only be used for certain purposes. In this case, it shows the fair value of the equity component that
represents what bondholders are willing to pay for the option to convert.
‘Share premium – conversion equity’