Nov 2019 Q3 b.
Duakwanta is a listed company which manufactures personal computers (PCs). It is preparing its financial statements for the year ended 31 May 2019 and would like to seek advise on the following accounting issue:
During the year, Duakwanta issued a debt finance to the financial markets to fund its expansion plans. This was a very significant debt issue for Duakwanta. After the issue, the market price of each block of debt on the market fell by approximately 10%. The financial press has stated that the reason for the fall is due to an increase in the company’s credit risk, as the market players are worried by the size of the interest payments on Duakwanta’s operating cash flows.
Required:
Advise the directors as to the financial reporting issues arising from the above scenario and explain the appropriate treatment in Duakwanta’s financial statements. (4 marks)
View Solution
- The debt issue must be accounted for under IFRS 9 Financial Instruments. Initial recognition is at fair value. However this would ordinarily be the amount of cash received.
- As the debt is Duakwanta’s own debt and is not held for trading purposes, it should ordinarily be held at amortised cost.
- The change in fair value of the debt on the market due to change in credit risk is not therefore adjusted in Duakwanta’s financial statements. However, it will be disclosed under IFRS 7 Financial Instruments: Disclosures.
Tutorial note: If the debt were held at fair value through profit or loss (which is unlikely in this case), the change in fair value relating to changes in the entity’s own credit risk would be recognised in other comprehensive income rather than profit or loss.
Initial recognition of financial instrument is at fair value under IFRS 9 : 1 mark
Duakwanta’s own debt held at amortised cost : 1 mark
Disclosure of fall in fair value : 2 marks