International briefing


Equity financial instruments

The International Accounting Standards Board (IASB) has published a discussion paper on the distinction between equity financial instruments and other financial instruments (non-equity instruments). The discussion paper responds to concerns about the application of

IAS 32, Financial Instruments: Presentation.

The project is a joint project between the IASB and the US Financial Accounting Standards Board (FASB) in which the FASB has carried out the initial research. In November 2007, the FASB published a preliminary views document, Financial Instruments with Characteristics of Equity. The IASB has not deliberated the proposals in the FASB document and, therefore, does not have a preliminary view. The IASB is seeking comments on the FASB's document before deciding whether to work with the FASB on these issues.

The FASB document describes three approaches for distinguishing equity instruments from non-equity instruments: basic ownership; ownership-settlement; and reassessed expected outcomes (REO).

Each of the three approaches uses the definition of a basic ownership instrument which is an instrument in which:

•    the holder has a claim to a share of the entity's assets and that claim is subordinate to all other claims if the issuer were to liquidate on the date the classification decision is being made; and

•    the holder is entitled to a percentage of the entity's assets that remain after all higher priority claims have been satisfied.

The definition of a basic ownership instrument does not rely on the definitions of a financial asset and a financial liability. In contrast, the definition of an equity instrument in

IAS 32 depends entirely on the definitions of a financial asset and a financial liability, in other words an equity instrument under IAS 32 is a residual.

The FASB believes that the basic ownership approach is the appropriate approach for distinguishing equity instruments from non-equity instruments. Under this approach, significantly fewer instruments would be classified as equity than is currently the case under

IAS 32. For example, some perpetual instruments which are classified as equity under IAS 32 would be classified as liabilities under the basic ownership approach.

Under the basic ownership approach, if an entity issues two classes of shares that are not equal in priority, only the class with the lower priority would be classified as equity. Under

IAS 32 both classes would be classified as equity as long as there is no contractual obligation to deliver a financial asset. Derivative financial instruments would not be classified as equity under the basic ownership approach. Under IAS 32, some derivatives are classified as equity.

The FASB document has rejected both the ownership-settlement approach and the REO approach. Classification under the ownership-settlement approach would be broadly consistent with that under

IAS 32. However, more instruments would be separated into components and, therefore, more components of instruments would be classified as liabilities rather than as equity as under IAS 32. Fewer derivative instruments would be classified as equity under the ownership settlement.

Under the REO approach, many more instruments and components of instruments would be classified as equity than are classified as equity under

IAS 32.

Comments are required by 5 September 2008. Copies of the discussion paper and the FASB preliminary views are available at


International Financial Reporting Standards require or permit in some circumstances the use of current, market-based values - generically called 'fair value'. The IASB staff is seeking to establish whether the term 'fair value', as used in each IFRS, is interpreted, or applied in practice, as an entry price, an exit price or another measurement basis. The feedback will help the IASB decide whether to:

•    retain the term 'fair value' and define it as 'current entry price', 'current exit price' or another measurement basis; or

•    replace each use of the term 'fair value' with a more specific term (for example 'current entry price' and 'current exit price') that is appropriate in the individual context.

The fair value measurement project is intended to provide a better definition (or definitions) and description of those market-based values. It is not intended to widen or narrow the circumstances in which a current, market-based value is used.

Further information is available on the fair value measurement project page at



The International Organisation of Securities Commissions (IOSCO) has urged publicly-traded companies to disclose clearly and accurately the accounting standards used in the preparation of their financial statements. IOSCO is concerned that, with the convergence of global accounting standards, investors may assume that all financial statements are generally comparable, even when they are prepared in accordance with quite different principles. IOSCO believes that this commonly occurs where national standards assert that they are based on, but do not fully implement, IFRS.

IAS 1.16 already requires that a company whose financial statements comply with IFRS should make an explicit and unreserved statement of such compliance. The IOSCO recommendation focuses on companies that prepare annual and interim financial statements on the basis of national standards that are modified or adapted from IFRS. IOSCO recommends that such companies should include at least the following statements:

•    a clear and unambiguous statement of the reporting framework on which the accounting policies are based;

•    a clear statement of the company's accounting policies on all material accounting areas;

•    an explanation of where the accounting standards that underpin the policies can be found;

•    a statement that explains that the financial statements are in compliance with IFRS as issued by the IASB, if this is the case; and

•    a statement that explains in what regard the standards and the reporting framework used differ from IFRS as issued by the IASB, if this is the case.

Further information is available at

David Cairns provides IFRS training and consulting services for preparers, auditors and users of IFRS financial statements ( He was the director of the project on the evaluation of IFRS financial statements of EU companies, which the ICAEW carried out on behalf of the European Commission. He is also a member of the UK's Financial Reporting Review Panel.

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