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ACCA Strategic Professional · Strategic Business Reporting (International) · Financial instruments

Nova issues a bond convertible into a variable number of its own shares, calculated so that the holder receives shares worth exactly $5 million on conversion. Which statement is correct under IAS 32?

The conversion feature is a derivative liability. Because the number of shares varies so that the holder always receives a fixed value, the fixed-for-fixed test is failed. The feature cannot be equity, so there is no equity component and the instrument is not split as a compound instrument.

  1. AThe conversion feature is equity because it will be settled in Nova's own shares
  2. BThe instrument is a compound instrument with a $5 million equity component
  3. CThe conversion feature fails the fixed-for-fixed test, so it is a derivative liability and the instrument is not split into debt and equity componentsCorrect
  4. DThe whole instrument is equity because the holder has no right to cash

Explanation

A conversion option settled with a variable number of shares worth a fixed amount fails the fixed-for-fixed condition. The feature is therefore a liability (an embedded derivative), not equity. The instrument is not a compound instrument with an equity component.

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