The accounting rule: Costs of issuing or reacquiring equity instruments (other than in a business combination) are accounted for as a deduction from equity, net of any related income tax benefit. Costs of issuing and reacquiring equity instruments
An entity typically incurs various costs in issuing or acquiring its own equity instruments. Those costs might include registration and other regulatory fees, amounts paid to legal, accounting and other professional advisers, printing costs and stamp duties. The transaction costs of an equity transaction are accounted for as a deduction from equity (net of any related income tax benefit) to the extent they are incremental costs directly attributable to the equity transaction that otherwise would have been avoided. The costs of an equity transaction that is abandoned are recognized as an expense. (IAS 32 37)Costs of issuing and reacquiring equity instruments
Transaction costs that relate to the issue of a compound financial instrument are allocated to the liability and equity components of the instrument in proportion to the allocation of proceeds. Transaction costs that relate jointly to more than one transaction (for example, costs of a concurrent offering of some shares and a stock exchange listing of other shares) are allocated to those transactions using a basis of allocation that is rational and consistent with similar transactions. (IAS 32 38)
The amount of transaction costs accounted for as a deduction from equity is disclosed separately. (IAS 32 39)
Example Costs of issuing and reacquiring equity instruments
An entity issues 600,000 convertible bonds at the start of year 1 on a regulated stock exchange. The bonds have a 3-year term, and are issued at par with a face value of CU 100 per bond, resulting in total proceeds of CU 60.0 million less transaction costs amounting to 1% of the nominal value of the bonds or CU 600,000. This also represents the fair value of the issued bonds.
Interest is payable annually in arrears at a 6% rate. Each CU 100 bond is convertible at any time up to maturity into 25 ordinary shares. When the bonds were issued, the prevailing market interest rate for similar debt instruments without conversion options is 9%.
The debt component is calculated by discounting the contract cash flows (interest and principal) to present value using the discount rate of 9% (the prevailing interest rate see above).
Note: the equity component is a written option that allows the holder to call for the shares on exercise of the conversion option at any time before maturity (American option). The difference between the bond’s proceeds and the debt component’s fair value of the debt component as calculated above, the residual id the equity component.
The issue costs of CU 600,000 are allocated between the equity and debt component as follows:
Just like with share capital in foreign currency (which is measured at the FX rate at issuance of the shares) the equity component is not subsequently remeasured. The resulting journal entry is as follows: