IAS 32.

4
Suggested solution

(a) Convertible debentures

Calculate the fair value of the liability:
PMT = 55 000 (5 000 x R100 x 11%: Interest payment, cash obligation during life)
I = 14% (Rate without conversion rights)
N=5
FV = 0 (Compulsory convertible, no cash obligation in future)
PV = ? = 188 819 (Fair value of liability component)

Calculate the equity component: Rand

Liability (Calculated above) 188 819 2
Equity (475 000 - 188 819) 286 181 1
Fair value / Issue price / Proceeds 475 000

Allocation of transaction costs to equity and liability:

Liability component (2 200 x 188 819 / 475 000) 875 1
Equity component (2 200 x 286 181 / 475 000) 1 325 1
2 200
Components after the allocation of transactions costs:
Liability component (188 819 - 875) 187 944 1
Equity component (286 181 - 1 325) 284 856 1
(475 000 - 2 200) 472 800

Learning note:
If a financial instrument contains both a liability and equity component it is referred to as a compound financial
instrument (IAS 32.28).
When the initial carrying amount of a compound financial instrument is allocated to its equity and liability
components, equity is the residual after deducting the fair value of the liability from the fair value of the
instrument as a whole (IAS 32.31).
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 to the liability and equity
components (IAS 32.38).
The transaction costs reduce the carrying amounts of the equity and liability components.

(b)
Calculate the effective interest rate:
PMT = 55 000 (Interest pmt)
PV = (187 944) (Liability after transaction costs)
N=5
FV = 0 (Compulsory convertible, no cash obligation in future)
I = ? = 14.19% 2.5

30 June 20.15 Dr Cr
Rand Rand
Financial liability at amortised cost (SFP) (55 000 - 26 669) 28 331 0.5
Finance costs (P/L) (187 944 x 14.19%) 26 669 1
Bank (SFP) 55 000 1

Learning note:
Since the carrying amount of the liability component changed due to the allocation of transaction costs, a new
effective interest rate is calculated that will be used to determine the interest expense.
On 30 June the payment is recorded and split between the finance costs and liability component.

1
(c) Share investment Dr Cr
2 July 20.14 Rand Rand
Investment at fair value through OCI (SFP) (80 000 x R10.20) + (R816 000 x
856 800
5%)
Bank (SFP) 856 800

30 June 20.15
Investment at fair value through OCI (SFP) ((80 000 x R10.90) - R856 800) 15 200
Mark-to-market reserve (OCI) 15 200

Learning note:
Please note that these ordinary shares were purchased at the market price, thus the fair value. Since the
purchase price/transaction price of R10,20 per share is equal to the fair value, there is no gain/loss on initial
recognition.

Please refer to paragraph 5.1.1 of IFRS 9, where it is noted that transaction costs on financial assets at fair value
through other comprehensive income are CAPITALISED/ADDED to the financial asset (i.e. it increases the value
of the financial asset). Transaction costs are calculated on the transaction price of R816 000.

Every year-end, the financial asset classified as measured at fair value through other comprehensive income
should be remeasured to fair value. Please refer to paragraph 5.7.1(b) of IFRS 9, where it is noted that a fair
value gain/loss on financial assets at fair value through other comprehensive income is recognised in other
comprehensive income (OCI).