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Minicase-8 - Essay Example

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14, all convertible bonds should be classified in the liabilities section of the balance sheet. The value of the option to convert into equity was not separated from the liability component because it was then recognized that the separation of the liability…
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Minicase-8
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Download file to see previous pages However, under the ED, only those conversion options that “establish an ownership relationship will be classified as equity” (ED-FI, p. 4). This means that, once converted, the shares are not redeemable and that the holder bears the risk of the changes in the market value of the issuer’s shares of stock. If the option does not meet this criterion, the entire convertible bond will be classified as liability.
Prior to the issuance of SFAS 145, the standard used to account for early extinguishment of debt was FASB Statement No. 4, Reporting Gains and Losses from Extinguishment of Debt. Under Statement No. 4, the gains or losses realized from the early settlement of debt should be shown as part of the company’s extraordinary items in its income statement. This classification is required regardless of the reason behind the early settlement.
Under SFAS 145, gains or losses from early extinguishment of debt can now be classified as part of the income or loss from continuing operations in the income statement; provided that early extinguishments of debts are part of the recurring transactions for the issuer. However, if such early extinguishments of debts are unusual or are infrequent transactions, the gains or losses realized from such early extinguishments should still be classified as extraordinary items in the income statement. The change was made because FASB recognized that early payments of debt have become part of the risk management strategy of certain companies. Such transactions are now also viewed as recurring financing activities that an entity can utilize to manage its interest rate risk. FASB also thinks that this change is consistent with the definition of unusual or extraordinary transactions under APB Opinion No. 30 and will reduce the frequency of using the caption “extraordinary items” in the income statement.
The requirement of SFAS 145 related to the classification of gains or losses from early extinguishment of debt affects ...Download file to see next pagesRead More
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