Financial Accounting

2A
COAFAB2-22

Eduvos (Pty) Ltd (formerly Pearson Institute of Higher Education) is registered with the Department of Higher Education and Training as a private higher education institution under the
Higher Education Act, 101, of 1997. Registration Certificate number: 2001/HE07/008
IAS 32, IFRS 9
FINANCIAL
INSTRUMENTS
Important dates
Week 5: Course guide
Week 5: Course guide

Excluding:
4. Financial assets,
6. Financial assets derecognition
7. Financial liabilities
8. Reclassification of financial instruments
10. Settlement in entity's own equity instruments
[Link], dividends, gains and losses
[Link]
13 Offsetting of financial instruments
14 Deferred tax
 Introduction
 Introduction
 Definitions/Fundamental concepts
Recognition
- Initial
- Subsequent
Measurement
Disclosure (IFRS 7 - Scoped out of
COFA302)
 Introduction
 Watch 3min video on LMS
 Introduction
IAS 32 = Presentation
Enhance FS
users’
understanding of
IFRS 9 = Financial Instruments the significance

IFRS 7 = Disclosure (Scoped out of

COFA302)
Financial
Instruments
What is a financial instrument?
 Financial
Assets
What is a financial asset (FA)?
Physical assets,
inventories,
income tax
assets
 Cash (currency in the safe)
 Contractual right to receive cash or another FA from another entity
(debtors, loans receivable)
 Contractual right to exchange FA/FL under conditions that are
potentially favourable (purchase option)
 Equity instrument of another entity (shares in other entity)
 Contract that will or may be settled in the entity’s own equity
instruments
 Financial
assets
• PPE 
• Leased assets under finance lease of
lessee 
• Leased assets under finance lease of
lessor  Not right to future cash
• Prepaid expenses  flows, but future
goods/services
• Interest receivable 
• Purchase option 
• Gold coin 
 Financial
Liability
What is a financial liability (FL)?
Contract
liabilities
Income tax
liabilities
Any liability that is a contractual obligation to:
 Deliver cash or to deliver another FA (trade payables, loans
payable) or
 Contractual obligation to exchange FI on potentially unfavourable
terms (written option) or
 Contract that may or will be settled in the entity’s own equity
instruments
 Financial
Liability
• Amounts payable for acquisition of PPE 
• Leased liability under finance lease of
lessee  Statutory requirement,
not contractual
• Income tax, VAT, PAYE  agreement

• Constructive obligation 
Liability due to past practise or
published policies, not contractual
agreement
 Equity
instrument
What is a equity instrument?

Net assets (Assets less Liabilities)

Any contract that results in a
residual interest in the assets of an entity,
after deducting all of its liabilities
 Equity
Instrument
• Examples:
• ordinary shares,
• non-cumulative shares, n
• on-redeemable preference shares
Other definitions
• Transaction costs – Transaction costs are
incremental costs that are directly
attributable to the acquisition or disposal
of a financial asset or liability.

• Fair value – The price that would be

received to sell an asset (or paid to
transfer a liability) in an orderly transaction
between market participants at the
measurement date.
Other definitions
• Market value – Market value is the amount
obtainable from the sale or payable on the
acquisition, of a financial instrument in an
active market.
Other definitions
• Effective interest rate – Effective interest
rate is the rate that exactly discounts the
estimated stream of future cash payments
through maturity or the next market-based
re-pricing date to the current net carrying
amount of the financial asset or liability.
That computation should include all fees.
The effective interest rate is the internal
rate of return of the financial asset or
financial liability for that period.
Other definitions
• Effective interest rate method – The effective interest rate
method is a method of calculating amortisation using the
effective interest rate of a financial asset or financial liability.

• Amortised cost – Amortised cost is the amount at which the

financial asset or liability was measured at initial recognition
minus principal payments, plus or minus the cumulative
amortisation of any difference between that initial amount and
the maturity amount and, minus any write down for
impairment or uncollectible.

• Derecognition – Derecognition is the removal of a financial

asset or liability, or portion thereof, from the enterprise’s SFP.
Other definitions
• Trade date vs. settlement date

• The trade date is the date that an enterprise commits to

purchase or sell an asset. Trade date accounting refers to
the recognition of an asset to be received and the liability to
pay for it on the trade date.
• The settlement date is the date than an asset is delivered to
or by an enterprise. Settlement date accounting refers to the
recognition of the asset on the date it is transferred to the
enterprise.
• For purposes of this course, purchase and sale transactions
will be accounted for in accordance with the settlement date
accounting method only.
 Classification FA

There are two classifications of financial

assets, classified according to the
measurement model:

Financial assets at fair value

Financial assets at amortised cost

An enterprise should recognise a financial

asset or financial liability on its SFP when, and
only when, it becomes a party to the
contractual provisions of the instrument.
 Initial
measurement

When a financial asset or liability is

recognised initially, an enterprise should
measure it as its fair value.

Transaction costs are included in the initial

measurement if the financial asset or
liability is not subsequently measured at
fair value through profit or loss.
 Fair value (IFRS 13)

Used in the initial measurement of ALL

financial instruments

Used in subsequent measurement too for some FI

IFRS 13: The price that would be received to sell

an asset/pay liability in an orderly transaction
between market participants at measurement
date.
 Initial
measurement
Driven by classification
IFRS 9
Financial assets Financial liabilities
@ amortised cost @ amortised cost
@ FV (P/L) @ FV (P/L)
Debt instrument @ FV (OCI) Derecognition
Equity instrument @ FV Financial guarantee
(OCI) contracts
Loan commitments
 Transaction
costs
Expense or capitalised?

What is transactions cost?

FI

Incremental costs
directly attributable to
@ FV (P/L) Other
acquisition or issue of
FA/FL
(not finance cost)
Expense Capitalised
 Journals FA

Initial Measurement:
At fair value plus transaction costs;
At acquisition:
Debit: Financial Asset (SFP)
Credit: Bank (SFP)
Acquisition of asset
Debit: Financial Asset (SFP)
Credit: Bank (SFP)
Transaction costs paid - capitalised
 Journals FA
Subsequent Measurement

Subsequently measured using the effective interest rate

method.

Debit: Bank/Accounts Receivable (SFP) @ coupon rate at issue

x fair value of financial asset

Credit: Interest Income (P/L) @ effective interest rate x (fair

value + transaction costs)

Debit/Credit: Financial Asset (SFP) (balancing)

Journal for the contractual cash flow

Raise this journal at date of receipt or raise accrual of interest at

year end (if interest will be paid in the next fin year - then accrue
for interest till year end - normal accrual principle)
Impairments FA
Impairments FA
Impairments FA
 Classification FL

There are two classifications methods:

• at fair value
• at amortised cost (using the effective interest rate model)

An enterprise should recognise a financial asset or financial

liability on its SFP when, and only when, it becomes a party
to the contractual provisions of the instrument.
 Account for settlements in
an entity’s own equity
instruments.
An equity instrument is any contract that evidences a
residual interest in the assets of an enterprise after
deducting all its liabilities.

An example will be ordinary shares issued by a

company.

The issuer of a financial instrument that contains both

a liability and an equity element should classify the
instrument’s component parts separately. For
purposes of this course we are not going to deal with
compound instruments
 Account for settlements in
an entity’s own equity
instruments.
A contract that will be settled by delivering a fixed
number of its own equity instruments (shares)
in exchange for a fixed amount of cash or
another financial asset is an equity instrument.

Contract that will be settled by:

Delivering a fixed number of its own equity instruments

in exchange for a
Amount of cash or another FA
= Equity instrument!
 Account for settlements in
an entity’s own equity
instruments.
Contract that will be settled by:

Delivering a fixed number of its own equity instruments

in exchange for a
Amount of cash or another FA = Equity instrument!

A contract that will be settled by delivering a variable

number of its own equity instruments (shares) in
exchange for a fixed amount or an amount based on
changes in an underlying variable (e.g. a commodity
price) is a financial liability.
Financial Risks
There are three categories of financial risk

• Market risk
• Credit risk
• Liquidity
Financial Risks
There are three categories of financial risk

• Market risk
• Credit risk
• Liquidity
Financial Risks
There are three categories of financial risk

• Market risk
• Credit risk
• Liquidity
 Derecognition of
financial assets

 When you sell the financial asset

Financial asset expires

(investment in debenture matures)
 Derecognition of
financial liabilities

Obligation is:
- Discharged (paid)
- Cancelled
- Expires
Settlement in an entity’s
own equity instruments
Contract that will be settled by:
Delivering a fixed number of its own
equity instruments in exchange for a
Amount of cash or another FA
 = Equity instrument

When an entity issues ordinary shares into the marker, the

entity receives a fixed amount of cash and deliver a fixed
number of shares
Settlement in an entity’s
own equity instruments
Contract will be settled in:
A variable number of entity’s own equity
instruments (shares)
Whose value equals a fixed amount or
Amount based on changes in an
underlying variable
= a Financial Liability!
Fixed for fixed = equity!!
Variable for fixed = debt!!
Settlement in an entity’s
own equity instruments
Settled net in
cash • FA

Settled net in
entity’s own • FA
shares

Settled
through gross • Equity
delivery
Settlement in an entity’s
own equity instruments
Contingent
settlement
provision

Settlement Occurrence of event Settle in cash or

dependant on is extremely rare, another financial
uncertain future highly abnormal and asset only in event of
events very unlikely liquidation of issuer

Financial liability Equity instrument Equity instrument

Classification of
preference shares
Preference Financial
shares liability

Principal
Dividend
amount

Mandatory
Compulsory
redeemable
FL FL
Classification of
preference shares
Preference Compound
shares instrument

Principal
Dividend
amount

Redeemable At the
at the option discretion of
of the holder entity
FL Equity
Classification of
preference shares
Preference Financial
shares liability

Principal
Dividend
amount

Redeemable
at the option Compulsory
of the holder
FL FL
Classification of
preference shares
Preference
shares Equity

Principal
Dividend
amount

Redeemable At the
at the option discretion of
of the issuer the entity
Equity Equity
Classification of
preference shares
Preference Compound
shares instrument

Principal
Dividend
amount

Redeemable
at the option Compulsory
of the issuer
Equity FL
Classification of
preference shares
Preference
shares Equity

Principal
Dividend
amount

At the
Non-
discretion of
redeemable entity
Equity Equity
Classification of
preference shares
Preference Financial
shares liability

Principal Perpetual debt

Dividend
amount instrument

Non-
Compulsory
redeemable
FL
Interest, dividends,
losses and gains
Interest,
dividends, losses
and gains

Liability Equity

Statement of
Profit and loss changes in
(P/L) equity (SCE)
 Transaction cost
Registration and other
regulatory fees,
amounts paid to legal,
accounting and other
Transaction
prof advisors, printing cost
cost, stamp duties

Compound
financial Equity
instrument

Allocate to Deduction
liability and directly from
equity equity
 Offsetting

FA and FL only offset if:

currently has a legally enforceable right
to set off the recognised amounts
 and
Intends to settle on a net basis, or to
realise the asset and liability at the same
time
What's next

• Study
• Pre-read
• Check test 1 Marks
• Consult