CHAPTER 36: PFRS 9 - FINANCIAL INSTRUMENTS
Initial measurement of financial asset
PFRS 9, paragraph 5.1.1, provides that at initial recognition, an entity shall measure a financial asset at fair value plus, in
the case of financial asset not at fair value through profit or loss, transaction costs that are directly attributable to the
acquisition of the financial asset.
As a rule, transaction costs that are directly attributable to the acquisition of the financial asset shall be capitalized as
cost of the financial asset.
However, if the financial asset is held for trading or if the financial asset is measured at fair value through profit or loss,
transaction costs are expensed outright.
Subsequent measurement
PFRS 9, paragraph 5.2.1, provides that after initial recognition, an entity shall measure a financial asset at:
a. Fair value through profit or loss (FVPL)
b. Fair value through other comprehensive income (FVOCI)
c. Amortized cost
The measurement depends on the business model of managing financial asset which may be to realize far value changes
and to collect contractual cash flows.
Financial assets at fair value through profit or loss
The following financial assets shall be measured at fair value through profit or loss:
1. Financial assets held for trading or popularly known as “trading securities”
2. All other investments in quoted equity instruments
3. Debt investments that are irrevocably designated on initial | recognition as at fair value through profit or loss
4. All debt investments that do not satisfy the requirements for measurement at amortized cost and at fair value
through other comprehensive income
Financial asset held for trading
Appendix A of PFRS 9 provides that a financial asset is held for trading if:
a. It is acquired principally for the purpose of selling op repurchasing it in the near term.
b. On initial recognition, it is part of a portfolio of identified financial assets that are managed together and for
which there is evidence of a recent actual pattern of short-term profit taking.
c. It is a derivative, except for a derivative that is a financial guarantee contract or a designated and an effective
hedging instrument.
In other words, trading securities are debt and equity securities that are purchased with the intent of selling them in the
"near term" or very soon.
Trading securities are normally classified as current assets.
What is an equity security?
The term equity security encompasses any instrument representing ownership shares and right, warrants or options to
acquire or dispose of ownership shares at a fixed or determinable price.
In simple language, equity securities represent an ownership interest in an entity.
CHAPTER 36: PFRS 9 - FINANCIAL INSTRUMENTS
Ownership shares include ordinary shares, preference shares and rights or options to acquire ownership shares.
What is a debt security?
A debt security is any security that represents a creditor relationship with an entity. A debt security has a maturity date
and a maturity value.
Examples of debt securities include corporate bonds, BSP treasury bills, commercial papers and other debt instruments
with maturity.
Illustration Trading securities (TS)
During 2019, an entity purchased marketable equity securities at a total cost of P5,000,000. The equity securities qualify
as financial asset held for trading. The entity also paid P50,000 as commission to the broker.
Trading securities 5,000,000
Commission expense 50,000
Cash 5,050,000
Observe that the commission paid to the broker is not capitalized as cost of the investment but treated as outright
expense.
On December 31, 2019, the trading securities have a total fair value of P6,000,000. The increase in value is recorded as
follows:
Trading securities 1,000,000
Unrealized gain-TS 1,000,000
The unrealized gain is classified in the income statement as other income.
On December 31, 2019, the statement of financial position will report the trading securities at fair value of P6,000,000
with a disclosure of the cost of P5,000,000.
On December 31, 2020 the trading securities have a fair value of P4,500,000. The decrease in fair value is recorded as
follows:
Unrealized lose TS 1,500,000
Trading securities 1,500,000
The unrealized loss is reported in the income statement as other expense.
On December 31, 2020, the trading securities will be carried at P4,500,000, with disclosure of the cost of P5,000,000.
Sale of trading securities
On December 31, 2021, the trading securities are sold for P5, 5200, 000. The sale is simply recorded as follows:
Cash 5,200,000
Trading securities 4,500,000
Gain on sale of trading securities 700,000
CHAPTER 36: PFRS 9 - FINANCIAL INSTRUMENTS
PFRS 9, paragraph 3.2.12, “provides that on disposal of y financial asset the difference between the carrying amount and
the consideration received is recognized as gain or loss on disposal to be reported in the income statement.
Financial asset at FVOCI
At initial recognition, PFRS 9, paragraph 5.7.5, provides that an entity may make an irrevocable election to present in
other comprehensive income or OCI subsequent changes in fair value of an investment in equity instrument that is not
held for trading.
This irrevocable approach is designed to impose discipline in accounting for nontrading equity investment.
The amount recognized in other comprehensive income is not reclassified to profit or loss under any circumstances.
However, on derecognition, the amount may be transferred to retained earnings.
If the investment in equity instrument is held for trading, the election to present gain and loss in other comprehensive
income ‘ls not allowed.
If the investment in equity instrument is held for trading, subsequent changes in fair value are always included in profit
or loss or reported in the income statement.
Illustration
During 2019, an entity purchased marketable equity securities at a total cost of P1,000,000, The entity paid commission
and taxes of P100,000.
The equity securities do not qualify as financial asset held for trading. The entity made an irrevocable election to present
unrealized gain and loss in other comprehensive income,
The journal entry to record the acquisition is:
Financial asset FVOCI 1,100,000
Cash 1,100,000
FVOCI means the financial asset is measured at fair value through other comprehensive income.
Under PFRS 9, paragraph 5.1.1, a financial asset measured at fair value through other comprehensive income shall be
recognized initially at fair value plus transaction cost directly attributable to the acquisition.
Thus, the commission and taxes of P100,000 are capitalized as cost of the investment.
On December 31, 2019, the securities have a total market value of P1,300,000. The increase in market value is:
Financial asset FVOCI 200,000
Unrealized gain OCI 200,000
The unrealized gain is presented as component of other comprehensive income in the 2019 statement of
comprehensive income.
The financial asset FVOCI on December 81, 2019 is carried at the market value of P1,300,000, with disclosure of the cost
of P1,100,000.
The financial asset - FVOCI is normally classified as noncurrent asset.
CHAPTER 36: PFRS 9 - FINANCIAL INSTRUMENTS
Sale of equity investment -FVOCI
On July 1, 2020, the securities are sold for P2,000,000. The journal entry to record the sale is:
Cash 2,000,000
Financial asset - FVOCI 1,300,000
Retained earnings 700,000
Gain or loss on disposal of equity investment measured at fair value through other comprehensive income is recognized
directly in retained earnings in accordance with PFRS 9, paragraph 5.7.1b.
Moreover, the cumulative gain or loss previously recognized in other comprehensive income is also transferred to
retained earnings in accordance with PFRS 9 Application Guidance, paragraph 5.7.1.
Accordingly, the cumulative unrealized gain of P200,000 is transferred to retained earnings.
Unrealized gain OCI 200,000
Retained earnings 200,000
The amount recognized in other comprehensive income is not reclassified to profit or loss under any circumstances.
Sale price 2,000,000
Historical cost 1,100,000
Actual gain on disposal 900,000
The actual gain of P900,000 is directly credited to retained earnings as shown in the two entries.
Debt investment at amortized cost
PFRS 9, paragraph 4.1.2, provides that a financial asset shall pe measured at amortized cost if both of the following
conditions are met:
a. The business model is to hold the financial asset in order to collect contractual cash flows on specified date.
b. The contractual cash flows are solely payments of principal and interest on the principal amount outstanding.
In other words, the business model is to collect contractual cash flows if the contractual cash flows are solely payments
of principal and interest.
In such a case, the financial asset shall be measured at amortized cost.
Debt investment at fair value through OCI
PFRS 9, paragraph 4.1.2A, provides that a financial asset shall be measured at fair value through other comprehensive
income if both of the following conditions are met:
a. The business model is achieved both by collecting contractual cash flows and by selling the financial asset. "
b. The contractual cash flows are solely payments of principal and interest on the principal outstanding.
Note that the business model includes selling the financial asset in addition to collecting contractual cash flows.
In this case, interest income 18 recognized using the effective interest method as in amortized cost measurement.
CHAPTER 36: PFRS 9 - FINANCIAL INSTRUMENTS
On derecognition, the cumulative gain and loss recognized in other comprehensive income shall be reclassified to profit
or loss.
The measurement of debt investment at amortized cost or at fair value through other comprehensive income is
discussed extensively in an intermediate accounting course.
SUMMARY OF MEASUREMENT RULES
Measurement of equity investments
1. Held for trading at fair value through profit or loss
2. Not held for trading as a rule, at fair value through profit or loss
3. Not held for trading at fair value through other comprehensive income by irrevocable election
4. All other investments in quoted equity instruments - fair value through profit or loss
5. Investments in unquoted equity instruments at cost Investments of 20% to 50% equity method of accounting
6. Investments of more than 50% consolidation method to be taken up in an advanced. accounting course.
Measurement of debt investments
1. Held for trading at fair value through profit or loss
2. Held for collection of contractual cash flows at amortized cost
3. Held for collection of contractual cash flows at fair value through profit or loss by irrevocable designation or fair
value option
4. Held for collection of contractual cash flows and for sale of the financial asset at fair value through other
comprehensive income
5. Held for collection of contractual cash flows and for sale of the financial asset at fair value through profit of loss
by irrevocable designation or fair value option
