IMA Financial Reporting Committee comment letter on the FASB’s Proposed Accounting Standards Update (ASU) No. 2019-730, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity

Monday, October 21, 2019

The IMA Financial Reporting Committee (FRC or Committee) issued a comment letter in response to the FASB’s Proposed ASU No. 2019-730, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity. In this exposure draft, the FASB (or Board) proposes to ease the application of current guidance in two areas:

• Convertible debt arrangements;
• Contracts in an entity’s own equity.

Although the FRC agrees with the Board’s efforts toward improvement, it does not support the proposed changes in the exposure draft over current guidance. Among the specific points raised, the Committee’s comment letter notes the following:

• If the FASB adopts the proposed guidance regarding contracts in an entity’s own equity, the Committee supports delineating specific events that an entity may presume to be remote. The proposed amendments, in its view, raise operational and audit challenges.
• The Committee supports an entity’s periodic assessment of how it classifies instruments in its own equity, and it requests that the Board reconsider the circumstances that would require an entity to reclassify an instrument as a liability.
• With respect to convertible instruments, the FRC observes that applying the proposed guidance may result in companies with dissimilar credit risk reporting similar amounts of interest expense. As an alternative, the Committee proposes a method that would require reporting entities to recognize interest expense on convertible debt at a rate consistent with the rate it would incur on nonconvertible debt. Over time, the entity would accrue the difference between the estimated borrowing rate on the nonconvertible debt and the effective borrowing rate on the convertible debt as interest expense.