Financial Instrument Presentation

Scope: a statement to establish a principle of financial instrument presentation as

liability or equity and offsetting financial asset and liability. Its applicable for
financial instrument from issuer perspective, financial asset and liability, equity
investment, and financial instrument related with interest rate, dividend, loss and gain.
Definition: Financial instrument is a contract that adds a value of financial asset and
liability or equity instrument of other entity.
Category:
Financial Asset
1. Cash is a financial asset as exchange of value and unit of measurement for all
transaction on financial report
2. Equity Instrument issued by other entity
3. Contractual Right
a. To accept cash or financial asset from other entity
b. To exchange financial asset from other entity with potential gain condition
Example:
a. Account Receivable
b. Notes Receivable
c. Loan Investment
d. Debt Investment
e. Perpetual Payable Instrument
4. Derivative and Non-Derivative
Debt/Equity Classification
Classification
PSAK No. 50 establishes principles for distinguishing between liabilities and equity.
The substance of the contractual terms of a financial instrument governs its
classification, rather than its legal form.
An instrument is a liability when the issuer is or can be required to deliver either cash
or another financial asset to the holder. This is the critical feature that distinguishes a
liability from equity. An instrument is classified as equity when it represents a residual
interest in the net assets of the issuer.
All relevant features need to be considered when classifying a financial instrument.
For example:
1. The instrument is a liability if the issuer can or will be forced to redeem the
instrument.
2. The instrument is a liability if the choice of settling a financial instrument in cash
or otherwise is contingent on the outcome of circumstances beyond the control of
both the issuer and the holder, as the issuer does not have an unconditional right to
avoid settlement.
3. An instrument is a liability if it includes an option for the holder to put the rights
inherent in that instrument back to the issuer for cash or another financial
instrument. However, some instruments that are putt-able or impose on the entity
an obligation to pay a pro rata share of the net assets of the entity only on
liquidation are classified as equity, provided that all of the strict criteria are met.
The treatment of interest, dividends, losses and gains in the income statement follows
the classification of the related instrument. Not all instruments are either debt or
equity. Some, known as compound instruments, contain elements of both of a single

contract. These instruments, such as bonds that are convertible into equity shares
either mandatorily or at the option of the holder, are split into liability and equity
components. Each is then accounted for separately. The liability element is
determined by fair valuing the cash flows excluding any equity component; the
residual is assigned to equity.
The table below illustrates the decision process to determine whether an instrument is
a financial liability or equity instrument
Instrument
Cash
Cash obligation Settlement in Classification
obligation for for
fixed number
principal
coupon/dividend of shares
s
Ordinary shares
No
No
N/A
Equity
Redeemable
Yes
Yes
No
Liability
preference
shares
with
5%
fixed
dividend each year
subject to availability
of distributable profits
Redeemable
Yes
No
Yes
Liability for
preference
shares
principal and
with
discretionary
equity
for
dividend
dividends
Convertible bond that Yes
Yes
Yes
Liability for
converts into fixed
bond
and
number of shares
equity
for
conversion
option
Convertible bond that Yes
Yes
No
Liability
converts into shares to
the value of liability
Fair Value: ...the price that would be received to sell an asset or transfer a liability in
an orderly transaction between market participants at the measurement date.
Financial Instrument Recognition and Measurement, Disclosure
Scope: a statement to establish a basic principle about recognition and measurement
for financial asset and liability, purchase and sale contract of non-financial item
exclude leasing, rental asset, inter-corporate financial asset transaction, employee
benefits, insurance contract, consolidation ownership issue, provision, contingency
liability, stock compensation and preceding financial asset transaction.
Initial Recognition
Initial measurement: financial assets and liabilities are initially measured at fair
value. This is usually the same as the fair value of the consideration given (in the case
of an asset). However, if this is not the case, any difference is accounted for in
accordance with the substance of the transaction. For example, if the instrument is
valued by reference to a more favorable market than the one in which the transaction
took place, an initial profit is recognized.

Transaction costs: These are included in the initial carrying value of financial assets
unless they are carried at fair value through profit or loss when the transaction costs
are recognized in the income statement.
Category of Financial Asset:
1. Fair Value Through Profit and Loss (FVTPL)
A financial asset is held for trading if acquired or originated principally for the
purpose of generating a profit from short-term fluctuations in price or dealers
margin or if it is part of a portfolio of identified instruments that are managed
together and for which there is evidence of a recent actual pattern of shortterm profit-taking. Financial asset is categorized as fair value through profit
and loss if fulfill several requirements:
a. Classified as trading securities, if:
i)
Entity obtains and holds financial asset for short-term capital return
purposes;
ii)
On initial recognition is a part of specific financial instrument
portfolio organized for short-term profit taking;
iii)
Defined as one of derivative instrument exclude for shield-valued
financial asset.
b. Entity has stated to measure financial asset on fair value through profit and
loss for several purposes, such as:
i)
To eliminate or to reduce significant accounting mismatch on initial
recognition and measurement;
ii)
To evaluate financial performance based on fair value and
synchronizes it with risk management or investment strategy.
2. Held to Maturity (HTM)
Held to maturity investment includes non-derivative financial asset with fixed
payment method and entity has intention to hold it until maturity date. Entity
can reclassify held to maturity financial asset, if:
a. Approaching maturity date (for example 3 months before maturity date)
where the change of interest rate does not affect significantly for fair value;
b. Preceding payment for a whole or substantial of principal;
c. Extraordinary event happened that is not repeated and cannot be
anticipated appropriately by entity.
3. Loan and Receivable (LR)
Loans and receivables are non-derivative financial assets with fixed or
determinable payments that are not quoted in an active market. They typically
arise when an entity provides money, goods or services directly to a debtor
with no intention of trading the receivable. However, a loan acquired as a
participation in a loan from another lender is also included in this category, as
are loans purchased by the entity that would otherwise meet the definition. If
the holder does not substantially recover all its initial investment from a
financial asset, other than because of credit deterioration, it cannot classify it
as a loan or receivable. Loan and receivable is a non-derivative financial asset
with fixed payment and has no quoted price on active market, except:
a. Classified as fair value through profit and loss for short-term capital return
purposes;
b. Classified as available for sale on initial recognition;
c. Entity presumes there is a possibility for default investment and classifies
it as available for sale.

4. Available For Sale (AFS)

All financial assets that are not classified in another category are classified as
available for sale. The available for sale category includes all equity securities
other than those classified as at fair value through profit or loss. An entity also
has the right to designate any asset, other than a trading one, to this category at
inception.
Example of financial asset category:
Financial Instrument Category
Fair value through
profit and loss

Financial
Asset

Loan and Receivable

Classification
Trading securities
Cash
Term Deposit
Placement on Bank
Other
asset

Held to maturity
Available for sale

Sub-classification
Securities
Government bonds
Derivative

financial

Other Receivable
Interest Receivable
Others

Securities
Government bonds
Securities
Government bonds
Stock for non-speculative purposes

Illustration: Investments in units issued by mutual funds

An entity invests in units issued by a close-ended fund. The fund holds only debt
instruments that themselves would qualify for amortized cost classification under
PSAK No. 55 had these instruments been directly held by the unit holder. The
objective of the fund is to hold the assets to maturity rather than to realize fair value
changes. Payments made by this fund to the holder may therefore represent solely
payments of principal and interest, and the holder may be able to measure its
investment at amortized cost. However, if the fund does not hold debt instruments, the
investor will not be able to measure its investment at amortized cost.
Reclassification of Assets among Categories
An instruments classification is made at initial recognition and is not changed
subsequently, with one exception. Reclassifications between fair value and amortized
cost (and vice versa) are required only when the entity changes how it manages its
financial instruments (that is, it changes its business model). Such changes are
expected to be infrequent. The reclassification must be significant to the entitys
operations and demonstrable to external parties.
Any reclassification should be accounted for prospectively. Entities are not therefore
allowed to restate any previously recognized gains or losses. The asset should be remeasured at fair value at the date of a reclassification of a financial asset from
amortized cost to fair value; this value will be the new carrying amount. Any
difference between the previous carrying amount and the fair value is recognized in a
separate line item in the income statement. At the date of a reclassification of a
financial asset from fair value to amortized cost, its fair value at that reclassification
date becomes its new carrying amount.

An example of a change in the business model that requires reclassification would be

an entity that has a portfolio of commercial loans that it holds to sell in the short term.
Following an acquisition of an entity whose business model is to hold commercial
loans to collect the contractual cash flows, that portfolio is managed together with the
acquired portfolio to collect the contractual cash flows.
Reclassification of Financial Instrument Category:
From
To
Status
Available for Sale
Omitted (vice versa)
Fair Value through
Held to Maturity
Omitted (vice versa)
Profit and Loss
Loan and Receivable
Permitted but a rare situation
Permitted if theres intention
Held to Maturity
to hold
Available for Sale
Loan and Receivable
Permitted but a rare situation
Permitted with fulfilling
Held to Maturity
Available for Sale
tainting rule*
Tainting Rule
Entity is omitted to reclassify financial asset from held to maturity investment, if in
the current year or for two previous years entity has sold or reclassified a huge and
more than insignificant amount of held to maturity investment before maturity date,
except if sale or reclassification takes place:
i)
On preceding maturity date (less than three months before maturity date)
ii)
Following with entity obtain a whole or substantial amount of principal or
preceding payment of principal
iii)
Due to inappropriate extraordinary event
Measurement after Initial Recognition
Classifica Balanc Transaction Fair Value Intere
tion
e Sheet cost
Gain
st and
(Loss)
Divide
nd
FVTPL
Fair
Expensed
Income
Incom
value
statement
e
statem
ent
HTM
Amorti Capitalized
Incom
zed
e
cost
statem
ent
LR
Amorti Capitalized
Incom
zed
e
cost
statem
ent
AFS
Fair
Debt/Capitali Other
Incom
value
zed
comprehen e
sive
statem
income
ent
Fair
Equity/Capita Other
Incom
value
lized
comprehen e

Impairm Impairme
ent
nt
Recovery
By
default

By default

Income
Income
statement statement
Income
Income
statement statement
Income
Income
statement statement
Income
Other
statement comprehen

Cost
method

Unobservable
Equity/Capita
lized

sive
income
-

statem
ent
Incom
e
statem
ent

Income
statement

sive
income
-

Amortized cost and effective interest method

The carrying amount of a financial instrument carried at amortized cost is calculated
as the amount to be paid/repaid at maturity (usually the principal amount or par/face
value), plus or minus any unamortized original premium or discount, net of any
origination fees and transaction costs and less principal repayments. The amortization
is calculated using the effective interest method. This method calculates the rate of
interest that is necessary to discount the estimated stream of principal and interest
cash flows (excluding any impact of credit losses) through the expected life of the
financial instrument or, when appropriate, a shorter period to equal the amount at
initial recognition. That rate is then applied to the carrying amount at each reporting
date to determine the interest income (assets) or interest expense (liabilities) for the
period. In this way, interest income or expense is recognized on a level yield to
maturity basis.
In the determination of the effective interest rate, the estimation of the cash flows does
not take into consideration any future credit losses anticipated on that instrument.
Fair value
Fair value is the amount for which an asset could be exchanged, or a liability settled,
between knowledgeable, willing parties in an arms length transaction. There is a
general presumption that fair value can be reliably measured for all financial
instruments. In looking for a reliable measure of fair value, PSAK No. 60 provides a
hierarchy to be used in determining an instruments fair value.
1. Active market quoted market price: the existence of published price
quotations in an active market is the best evidence of fair value, and they are used
to measure the financial instrument. Quoted in an active market means that
quoted prices are readily and regularly available from an exchange, dealer, broker,
industry group, pricing service or regulatory agency, and those prices represent
actual and regularly occurring market transactions on an arms length basis. The
price can be taken from the most favorable market readily available to the entity,
even if that was not the market in which the transaction actually occurred. The
quoted market price cannot be adjusted for blockage or liquidity factors. The
fair value of a portfolio of financial instruments is the product of the number of
units of the instrument and its quoted market prices.
2. No active market valuation techniques: if the market for a financial
instrument is not active, fair value is established by using a valuation technique.
Valuation techniques that are well established in financial markets include recent
market transactions, reference to a transaction that is substantially the same,
discounted cash flows and option pricing models. An acceptable valuation
technique incorporates all factors that market participants would consider in
setting a price and should be consistent with accepted economic methodologies
for pricing financial instruments. The amount paid or received for a financial
instrument is normally the best estimate of fair value at inception. However,
where all data inputs to a valuation model are obtained from observable market

transactions, the resulting calculation of fair value can be used for initial
recognition.
3. No active market equity instruments: it is possible normally to estimate the
fair value of an equity instrument that an entity has acquired from an outside
party. However, if the range of reasonable fair value estimates is significant and
no reliable estimate can be made, an entity is permitted to measure the equity
instrument at cost less impairment as a last resort. A similar dispensation applies
to derivative financial instruments that can only be settled by physical delivery of
such unquoted equity instruments.
It might be possible in some circumstances to recognize a gain on initial recognition
of a financial instrument. However, the circumstances in which this will be permitted
are tightly controlled.
Impairment of Financial Asset
A financial asset or a group of financial assets is impaired and impairment losses are
incurred only if there is objective evidence of impairment as a result of a past event
that occurred subsequent to the initial recognition of the asset. Expected losses as a
result of future events, no matter how likely, are not recognized.
An entity assesses at each balance sheet date whether there is objective evidence that
a financial asset or group of assets may be impaired.
Examples of factors to consider are:
1. Significant financial difficulty of the issuer
2. High probability of bankruptcy
3. Disappearance of an active market because of financial difficulties
4. Breach of contract, such as default or delinquency in interest or principal
5. Adverse change in a factor (for example, unemployment rates)
The disappearance of an active market or the downgrade of an entitys credit rating is
not itself evidence of impairment, although it may be evidence of impairment when
considered with other information. A significant or prolonged decline in the fair value
of an investment in an equity instrument below its cost is also objective evidence of
impairment.
If there is objective evidence that impairment has been incurred and the carrying
amount of a financial asset carried at amortized cost exceeds its estimated recoverable
amount, the asset is impaired. The recoverable amount is the present value of the
expected future cash flows discounted at the instruments original effective interest
rate. The use of this rate prevents a market value approach from being imposed for
loans and receivables. The carrying amount is reduced to its recoverable amount
either directly or through the use of an allowance account. The amount of the loss is
included in net profit or loss for the period.
If there is objective evidence of impairment of available-for-sale financial assets
carried at fair value, the cumulative net loss (difference between amortized acquisition
cost and current fair value less any impairment loss previously recognized in the
income statement) that has previously been recognized in equity is removed and
recognized in the income statement, even though the asset has not been sold. Entities
are prohibited from reversing impairments on investments in equity securities.
However, if the fair value of an available-for-sale debt instrument increases and the
increase can be objectively related to an event occurring after the loss was recognized,
the loss may be reversed through the income statement.
For the purposes of a collective evaluation of impairment, financial assets are grouped
on the basis of similar credit risk characteristics (for example, on the basis of a credit

risk evaluation or grading process that considers asset type, industry, geographical
location, collateral type, past-due status and other relevant factors). Those
characteristics should be relevant to the estimation of future cash flows for groups of
such assets by being indicative of the debtors ability to pay all amounts due
according to the contractual terms of the assets being evaluated.
Future cash flows in a group of financial assets that are collectively evaluated for
impairment are estimated on the basis of the contractual cash flows of the assets in the
group and historical loss experience for assets with credit risk characteristics similar
to those in the group. Historical loss experience is adjusted on the basis of current
observable data to reflect the effects of current conditions that did not affect the
period on which the historical loss experience is based and to remove the effects of
conditions in the historical period that do not exist currently.
Estimates of changes in future cash flows for groups of assets should reflect and be
directionally consistent with changes in related observable data from period to period
(such as changes in unemployment rates, property prices, payment status and other
factors indicative of changes in the probability of losses in the group and their
magnitude). The methodology and assumptions used for estimating future cash flows
are reviewed regularly to reduce any differences between loss estimates and actual
loss experience.

Derivative Financial Asset and Hedging Accounting

Derivative is a financial instrument or other contract that has characteristic where the
value changes caused by the change of other factors among interest rate, securities
prices, commodity prices, exchange rate, price index or interest rate index, credit
rating or credit index, etc.
Definition and Scope
Derivatives and Hedging must be applied by all nongovernmental entities to all
financial instruments or other contracts that meet the definition of a derivative and do
not qualify for one of its scope exceptions. In order to understand which instruments
fall within its scope and how its requirements apply to a particular contract, entities
need to study the definition of a derivative instrument as well as the many scope
exceptionsin considerable detail.
This chapter examines some of the important concepts associated with the various
terms that are included in the definition of a derivative instrument. An understanding
of these concepts will be particularly important and relevant when an entity is
evaluating instruments that might qualify as, or contain, a derivative instrument that is
subject to the provisions of PSAK No. 55.
An underlying is a variable within a derivative instrumentthat, along with either a
notional amount or a payment provision, determines the settlement amount of a
derivative. An underlying usually is one or a combination of the following:
1. A security price or security price index.
2. A commodity price or commodity price index.
3. An interest rate or interest rate index.
4. A credit rating or credit index.
5. An exchange rate or exchange rate index.
6. An insurance index or catastrophe loss index.
7. A climatic or geological condition (such as temperature, earthquake severity,
or rainfall), another physical variable, or a related index.
8. The occurrence or nonoccurrence of a specified event such as a scheduled
payment under a contract.
An underlying may be the price or rate of an asset or liability but is not the asset or
liability itself. Accordingly, the underlying will generally be the referenced rate or
index that determines whether or not the derivative instrument has a positive or
negative value.
A notional amount is a number of currency units, shares, bushels, pounds, or other
units specified in a derivative contract. The notional amount generally represents the
second half of the equation that goes into determining the settlement amount under a
derivative instrument. Accordingly, the settlement of a derivative instrument is often
determined by the interaction of the notional amount and the underlying. The
interaction between the notional amount and the underlying may consist of simple
multiplication, or it may involve a formula that has leverage factors or other
constants. Example: UnderlyingDetermination of an Underlying if a Commodity
Contract Includes Both Fixed and Variable Price Elements, provides guidance to assist
in the determination and identification of an underlyingin commodity contracts
through an example of a multi-attribute contract to purchase a commodity in the
future. The contract calls for the commodity purchase atthe prevailing market index
price at that future date plus or minus a fixed basis differential set at the inception

of the contract. This example concludes that if the characteristics of a notional

amount, an underlying, and no initial net investmentare present and the commodity to
be delivered is readily convertible to cash, then
Initial Net Investment
Many derivative-like instruments do not require an initial cash outlay, while others
require a payment as compensation for time value (e.g., a premium on an option)or
for terms that are more favorable than market conditions (e.g., an in-the-money option
or a premium on a forward purchase contract with a price that is less than the current
forward price).
A derivative instrument as either a contract that does not require an initial net
investment or a contract that requires an initial net investment that when adjusted for
the time value of money, is less by more than a nominal amount than the initial net
investment that would be required to acquire the asset related to the underlying or to
incur an obligation related to the underlying. A derivative instrument does not require
an initial net investment in a contract that is equal to the notional amount (or the
notional amount plus a premium or minus a discount) or that is determined by
applying the notional amount to the underlying.
Some derivative instruments might require a mutual exchange of assets at a contracts
inception, in which case the initial net investment would be the difference between the
fair values of the assets exchanged. However, an exchange of currencies of equal fair
values (e.g., in a currency swap contract) is not considered an initial net investment; it
is the exchange of one kind of cash for another kind of cash of equal value.
Net Settlement
Another key concept in the definition of a derivative is whether a contract can be
settled net, which generally means that a contract can be settled at its maturity through
an exchange of cash instead of through the physical delivery of the referenced asset. A
contract may be considered net settled when its settlement meets one of the following
criteria:
1. Net settlement under contract terms
2. Net settlement through a market mechanism
3. Net settlement by delivery of derivative instrument or asset readily convertible
to cash.
Net Settlement Under Contract Terms
In this form of net settlement, neither party is required to deliver an asset that is
associated with the underlying and that has a principal amount, stated amount, face
value, number of shares, or other denomination that is equal to the notional amount
(or the notional amount plus a premium or minus a discount). For example, most
interest rate swaps do not require that either party deliver interest-bearing assets with
a principal amount equal to the notional amount of the contract. Net settlement may
be made in cash or by delivery of any other asset (such as the right to receive future
payments), whether or not that asset is readily convertible to cash.
Many derivative instruments contain explicit net settlement provisions that obviously
meet this form of net settlement. However, certain purchase contracts can
unexpectedly fall under the definition of a derivative as a result of the contracts
default provisions. For instance, a contracts requirement that an entity pay a penalty
for nonperformance that equals the changes in the price of the items that are the
subject of the contract might be considered a net settlement provision, depending on
the specifics of the contract.

An example of this situation is a contract with a liquidating-damages clause

stipulating that if party A fails to deliver a specified quantity of a particular
commodity or if party B fails to accept the delivery of that commodity, the party in an
unfavorable position must pay to the other party an amount equal to the difference
between the spot price on the scheduled delivery date and the contract price regardless
of which party defaulted. This is an example of a symmetrical default provision.
An asymmetrical default provision requires that the defaulting party compensate the
non-defaulting party for any incurred loss but does not allow the defaulting party to
benefit from favorable price changes. An asymmetrical default provision does not
meet the definition of net settlement and thus does not qualify a contract as meeting
the scope requirements of net settlement for qualification as a derivative. However, a
pattern of settlements outside of physical delivery would call into question whether
the provision serves as a net settlement mechanism under the contract. It wouldalso
call into question whether the full contracted quantity will be delivered underthis and
similar contracts. Finally, net settlement of a contract designated as normal purchases
and normal sales would result in a tainting event which would need tobe evaluated to
determine the impact on the contract itself and other contracts similarly designated as
normal. In addition, the presence of asymmetrical default provisions appliedin
contracts between the same counterparties would indicate the existence of an
agreement between those parties that the party in a loss position may elect the default
provision, thus incorporating a net settlement provision within the contract.
A fixed penalty for nonperformance is not considered a net settlement provision
because the amount is fixed and does not vary with changes in the underlying.
Further, a variable penalty for nonperformance is not a form of net settlement if that
penalty also contains an incremental penalty of a fixed amount that would be expected
to be great enough to act as a disincentive for nonperformance throughout the term of
the contract.
Contracts that provide for a structured payout of the gain (or loss) resulting from those
contracts meet the characteristic of net settlement if the fair value of thecash flows to
be received (or paid) by the holder under the structured payout are approximately
equal to the amount that would have been received (or paid) if the contract had
provided for an immediate payout related to the settlement of the gain (loss) under the
contract. Net settlement would not exist if the holder of a contract was to be required
to invest funds in, or borrow funds from, the other party so that the party in a gain
position under the contract could obtain the value of that gain only over time as a
traditional adjustment of either the yield on the amount invested or the interest
element on the amount borrowed. A structured payout of the gain on a contract can be
described as an untraditionally high or atypical yield on a required investment or
borrowing in which the overall return is related to the amount of that contracts gain.
When a contract requires an investment of funds in, or borrowing of funds from, the
other party so that the party in a gain position under the contract obtains the value of
that gain only over time as an untraditional adjustment of either the yield on the
amount invested or the interest element on the amount borrowed, then an analysis of
the terms of the contract could lead to a conclusion that there is net settlement because
the settlement is in substance a structured payout of the contracts gain.
For example, if a contract required the party in a gain position under the contract to
invest $100 in the other partys debt instrument that paid an abnormally high interest
rate of 5,000 percent per day for a term whose length is dependent on the changes in
the contracts underlying, an analysis of those terms would lead to the conclusion that
the contracts settlement terms were in substance a structured payout of the contracts

gain and thus that contract would be considered to have met the characteristic of net
settlement in that paragraph.
Some contracts contain provisions that provide for net share settlement as a settlement
alternative. Net share settlement of an option or warrant contract to purchase common
stock requires the delivery to the party with a gain of an amount of common shares
with a current fair value equal to the gain. Therefore, if either counterparty could net
share settle the contract, then it would be considered a derivativeregardless of
whether the net shares were readily convertible to.
Net Settlement Through a Market Mechanism
In this form of net settlement, one of the parties to a contract is required to deliver an
asset, but there is an established market mechanism that facilitates net settlement
outside the contract that is,a market for the contract itself. (For example, an exchange
that offers a ready opportunity to sell the contract or to enter into an offsetting
contract.) Market mechanisms may have different forms. Many derivative instruments
are actively traded and can be closed or settled before the contracts expiration or
maturity by net settlement in active markets. The term market mechanism should be
interpreted broadly and includes any institutional arrangement or other agreement
having the requisite characteristics. For example, any institutional arrangement or
over-the- counter agreement that permits either party to (1) be relieved of all rights
and obligations under the contract, and (2) liquidate its net position in the contract
without incurring a significant transaction cost is considered a net settlement.
Regardless of its form, an established market mechanism, as contemplated, must have
all of the following primary characteristics:
a. It is a means to settle a contract that enables one party to readily liquidate its
net position under the contract. A market mechanism is a means to realize the
net gain or loss under a particular contract through a net payment. Net
settlement may occur in cash or any other asset. A method of settling a
contract that results only in a gross exchange or delivery of an asset for cash
(or other payment in kind) does not satisfy the requirement that the mechanism
facilitate net settlement.
Additional factors that would indicate that the first characteristic is present include
markets that provide access to potential counterparties regardless of a sellers size or
market position, and the risks assumed by a market maker as a result of acquiring a
contract can be transferred by a means other than by repackaging the original contract
into a different form.
b. It results in one party to the contract becoming fully relieved of its rights and
obligations under the contract. A market mechanism enables one party to the
contract to surrender all future rights or avoid all future performance
obligations under the contract. Contracts that do not permit assignment of the
contract from the original issuer to another party do not meet the characteristic
of net settlement through a market mechanism. The ability to enter into an
offsetting contract, in and of itself, does not constitute a market mechanism
because the rights and obligations from the original contract survive. The fact
that an entity has offset its rights and obligations under an original contract
with a new contract does not by itself indicate that its rights and obligations
under the original contract have been relieved. This applies to contracts
regardless of whether either of the following conditions exists:
1. The asset associated with the underlying is financial or nonfinancial.

2. The offsetting contract is entered into with the same counterparty as the
original contract or a different counterparty (unless an offsetting contract
with the same counterparty relieves the entity of its rights and obligations
under the original contract, in which case the arrangement does constitute
a market mechanism
Generally, an offsetting contract does not replace an original contracts legal rights
and obligations. Additional factors that would indicate that the second characteristic is
present include situations where there are multiple market participants willing and
able to enter into a transaction at market prices to assume the sellers rights and
obligations under a contract or instances where there is sufficient liquidity in the
market for the contract, as indicated by the transaction volume as well as a relatively
narrow and observable bid/ask spread.
c. Liquidation of the net position does not require significant transaction costs.
For purposes of assessing whether a market mechanism exists, an entity shall
consider transaction costs to be significant if they are10 percent or more of the
fair value of the contract. Whether assets deliverable under a group of futures
contracts exceeds the amount of assets that could rapidly be absorbed by the
market without significantly affecting the price is not relevant to this
characteristic. The lack of a liquid market for a group of contracts does not
affect the determination of whether there is a market mechanism that
facilitates net settlement because the test focuses on a singular contract. An
exchange offers a ready opportunity to sell each contract, thereby providing
relief of the rights and obligations under each contract. The possible reduction
in price due to selling a large futures position is not considered to be a
transaction cost.
d. Liquidation of the net position under the contract occurs without significant
negotiation and due diligence and occurs within a time frame that is customary
for settlement of the type of contract. A market mechanism facilitates easy and
expedient settlement of the contract. As discussed under the primary
characteristic in (a), those qualities of a market mechanism do not preclude net
settlement in assets other than cash.
Readily obtainable binding prices, standardized documentation and settlement
procedures, minor negotiation and structuring requirements, and non-extensive
closing periods are all indicators that the particular market mechanism possesses this
characteristic.
The assessment of whether a market mechanism exists should be performed onan
individual contract basis and not on an aggregate holdings basis. This assessment
must be performed at the inception and onan ongoing basis throughout a contracts
life. Because the criteria are applied at the individual contract level, the lack of a
liquid market for a group of contracts does not affect the determination of the
existence of a market mechanism that facilitates net settlement for an individual
contract within that group.
Net Settlement by Delivery of Derivative Instrument or Asset Readily Convertible to
Cash
In this form of net settlement, one of the parties is required to deliver an asset of the
type, but that asset is readily convertible to cash or is itself a derivative instrument. An
example of a contract with this form of net settlement is a forward contract that
requires delivery of an exchange-traded equity security. Even though the numberof
shares to be delivered are the same as the notional amount of the contract andthe price

of the shares is the underlying, an exchange-traded security is readily convertible to

cash. Another example is a swaptionan option to require delivery of a swap
contract, which is a derivative instrument.
The above criterion addresses situations in which there is no actual net settlement but
instead, the delivery of an asset that puts the receiving party in a positionthat is
equivalent to a net settlement. When a contract is net settled, neither party accepts the
risks and costs customarily associated with owning and delivering the asset associated
with the underlying (e.g., storage, maintenance, and resale costs). However, if the
asset to be delivered is readily convertible to cash, those risks are minimal, and
therefore the parties should be indifferent as to whether there is a gross physical
exchange of the asset or a net settlement in cash.
This definition refers to the following characteristics as support that an asset is readily
convertible to cash: (1) interchangeable (fungible) units, and (2) quoted prices that are
available in an active market, which can rapidly absorb the quantity held by an entity
without significantly affecting the price. Based on this concept, a security or
commodity that is traded in a deep and active market, or a unit of foreign currency
that is readily convertible to the functional currency of the reporting entity, is an asset
that is readily convertible to cash. Conversely, securities that are not actively traded,
as well as an unusually large block of thinly traded securities, would not be
considered readily convertible to cash in most circumstances, even though the owner
might be able to use such securities as collateral in a borrowing arrangement.
Therefore an asset (whether financial or nonfinancial) shall be considered to be
readily convertible to cash only if the net amount of cash that would be received from
a sale of the asset in an active market is either equal to or not significantly less than
the amount an entity would typically have received under a net settlement provision.
The net amount that would be received upon sale need not be equal to the amount
typically received under a net settlement provision. Parties generally should be
indifferent as to whether they exchange cash or the assets associated with the
underlying, although the term indifferent is not intended to imply an approximate
equivalence between net settlement and proceeds from sale in an active market.
An entity must assess the estimated costs that would be incurred to immediately
convert the asset to cash. If those costs are significant, then the asset is not considered
readily convertible to cash and would not meet the definition of net settlement. For
purposes of assessing significance of such costs, an entity shall consider those
estimated conversion costs to be significant only if they are 10 percent or more of the
gross sales proceeds (based on the spot price at the inception of the contract) that
would be received from the sale of those assets in the closest or most economical
active market.
Example: Net SettlementReadily Convertible to CashEffect of Daily Transaction
In assessing whether a contract, which can contractually be settled in increments,
meets the definition of net settlement, an entity must determine whether or not the
quantity of the asset to be received from the settlement of one increment is considered
readily convertible to cash. If the contract can be settled in increments and those
increments are considered readily convertible to cash, the entire contract meets the
definition of net settlement. For example, assume that an entity has an option to
purchase one million shares of a publicly traded stock, which can be exercised in
increments of 25,000 shares. When determining whether the shares can be rapidly
absorbed in the market without significantly affecting the price, the entity must base
its assessment on the exercise of the smallest increment (25,000 shares), not on the
entire options notional amount (one million shares).

Most futures, forwards, swaps, and options are considered derivative instruments
because (1) their contract terms call for a net cash settlement, or (2) a mechanism
exists in the marketplace that makes it possible to enter into closing contracts with
only a net cash settlement. Included under the definition of a derivative instrument are
commodity-based contracts that permit settlement through the delivery ofeither a
commodity or cash (e.g., commodity futures, options, or swap contracts), commodity
purchase and sales contracts that require the delivery of a commodity that is readily
convertible to cash (e.g., wheat, oil, or gold), and loan commitments from the issuers
(lenders) perspective that relate to the origination of mortgage loans that will be held
for sale.
Derivatives on own shares
Derivative contracts that only result in the delivery of a fixed amount of cash or other
financial assets for a fixed number of an entitys own equity instruments are classified
as equity instruments. All other derivatives on own equity are treated as derivatives
and accounted for as such under PSAK No. 55. This includes any that:
1. Can or must be settled on a net basis in cash (or other financial assets) or in
shares;
2. May be settled gross by delivery of a variable number of own shares; or
3. May be settled by delivery of a fixed number of own shares for a variable
amount of cash (or other financial assets).
Any derivative on own equity that gives either party a choice over how it is settled is
a financial asset or liability unless all of the settlement alternatives would result in
equity classification. The following table illustrates this:
Instrument
Classificatio
Example
n
A contract that is settled by the issuer
Equity
A warrant giving the
delivering a fixed number of the
counterparty a right to
issuers own shares in exchange for a
subscribe for fixed number
fixed monetary amount of cash or other
of the entitys shares for a
assets
fixed amount of cash
A contract that requires an entity to
Liability
Forward contract to
repurchase (redeem) its own shares for (redemption
repurchase own share for
cash or other financial assets at fixed or amount)
cash
determinable date or on demand
An obligation to redeem own shares for Liability
Written option to
cash that is conditional on the
(redemption
repurchase own shares for
counterparty exercising a right to
amount)
cash
redeem
A contract that will be settled in cash
Derivative
Net cash-settled share
for other assets where the amount of
asset or
option
cash that will be received or delivered
liability
is based on changes in the market price
of the entitys own equity
A contract that will be settled in a
Derivative
Forward contract on the
variable number of own shares
asset or
price of gold that is settled
determined so as to equal a fixed value liability
in own shares
or a valued based on changes in an
underlying variable (for example, a
commodity price)

A contract containing multiple

settlement alternatives (for example,
net in cash or net in own shares, or by
exchanging own shares for cash or
other financial assets)

Derivative
asset or
liability

Derivative asset or
liability. Share option that
the issuer can decide to
settle in cash or by
delivering own shares for
cash

Embedded derivatives
PSAK No. 55 defines a derivative as a financial instrument with all these
characteristics:
1. Its value changes in response to changes in an underlying price or index.
2. It requires no initial net investment or an initial net investment that is smaller
than would be required to purchase the underlying instrument.
3. It is settled at a future date.
PSAK No. 55 prevents abuse of the requirements for carrying derivatives at fair value
through profit or loss by requiring separate recognition of derivatives embedded in a
host contract that is accounted for differently. An embedded derivative is split from
the host contract and accounted for separately if:
1. Its economics are not closely related to those of the host contract (see
examples below).
2. A separate instrument with the same terms as the embedded derivative would
meet the definition of a derivative.
3. The entire contract is not carried at fair value through profit or loss.
The table below contrasts contracts containing embedded derivatives to identify those
that are not closely related:
Not closely related
Closely related
1. Equity conversion or put option in
1. Interest rate swap embedded in a debt
debt instrument
instrument
2. Debt security with interest or
2. Inflation-indexed lease contracts
principal linked to commodity or
3. Cap and floor in a sale and purchase
equity prices
contract
3. Credit derivatives embedded in a host 4. Pre-payment option in a mortgage
debt instrument
where the options exercise price is
4. Sales or repurchases not in (a)
approximately equal to the
measurement currency of either party,
mortgages amortized cost on each
(b) currency in which products are
exercised date
routinely denominated in
5. A forward foreign exchange contract
international commerce, or (c)
that results in payments in either
currency commonly used in the
partys reporting currency
economic environment in which
6. Dual currency bonds
transaction takes place
7. Foreign currency denominated debt
Determining whether a contract contains an embedded derivative and the embedded
derivatives specific terms can be difficult in practice. Because few contracts actually
use the term derivative, a thorough evaluation of the terms of a contract must be
performed to determine whether an embedded derivative is present. Certain terms and
phrases, however, may indicate the presence of an embedded derivative in a contract.
Such terms and phrases include the following:
1. Right to put / call / redeem / repurchase / return
2. Right to prepay / repay early / accelerate repayment / early exercise
3. Right to purchase / sell additional units

4. Right to terminate / cancel / extend

5. Right to exchange / exchangeable into
6. Right to convert / convertible into
7. Indexed to / adjusted by / referenced to
8. Pricing based on the following formula
9. Option between / choice between
10. Notional / underlying / strike / premium
11. Conditional / contingent / optional
Another method of determining whether a contract has an embedded derivative is to
compare the terms of the contract (such as interest rate, maturity date, and
cancellation provisions) with the corresponding terms of a similar, non-complex
contract. This comparison of differences may uncover one or more embedded
derivatives. However, even instruments with typical market terms may have
embedded derivatives.
Determining Embedded vs. Freestanding
One of the difficulties in applying the embedded derivative model is determining
whether a feature is, in fact, embedded or freestanding. Options added to an
instrument by a party other than its issuer are not embedded in that instrument.
Additionally, options exercisable by someone other than the issuer or investor are not
embedded in the instrument. Options that are transferable separately from the
instrument to which they relate should be considered attached freestanding options.
Additionally, freestanding financial instrument is defined as a financial instrument
that meets either of the following conditions:
1. It is entered into separately and apart from any of the entitys other financial
instruments or equity transactions.
2. It is entered into in conjunction with some other transaction and is legally
detachable and separately exercisable.
Therefore, although a derivative instrument may be written into the same contract as
another instrument (i.e., in a debt agreement), it is considered embedded only if it
cannot be legally separated from the host contract and transferred to a third party. In
contrast, both the writer and the holder would consider features that are written in the
same contract, but that may be legally detached and separately exercised attached,
freestanding derivatives rather than embedded derivatives.
What is the difference between a traditional and derivative financial instrument?
It should be recognized that a derivative financial instrument has three basic
characteristics.
1. The instrument has (1) one or more underlying and (2) an identified payment
provision. As indicated earlier, an underlying is a specified interest rate, security
price, commodity price, index of prices or rates, or other market-related variable.
Payment is determined by the interaction of the underlying with the face amount
or the number of shares, or other units specified in the derivative contract (these
elements are referred to as notional amounts). For example, the value of the call
option increased in value when the value of the Laredo stock increased. In this
case, the underlying was the stock price. Payment provision is the multiple
between the change in the stock price and number of shares (notional amount).
2. The instrument requires little or no investment at the inception of the contract. To
illustrate, Hale Company paid a small premium to purchase the call optionan
amount much less than if the Laredo shares were purchased as a direct investment.

3. The instrument requires or permits net settlement. As indicated in the call option
example, Hale could realize a profit on the call option without taking possession
of the shares. The feature is referred to as net settlement and serves to reduce the
transaction costs associated with derivatives.
Feature
Traditional Financial
Derivative Financial
Instrument (Trading
Instrument (Call Option)
Securities)
Payment Provision
Stock price times the
Change in stock price
number of shares
(underlying) times number
of shares (notional
amount)
Initial Investment
Investor pays full cost
Initial investment is less
than full cost
Settlement
Deliver stock to receive
Receive cash equivalent,
cash
based on changes in stock
price times the number of
shares
Illustration of Derivative Financial Instrument
To illustrate the measurement and reporting of a derivative financial instrument, we
examine a derivative whose value is related to the market price of Laredo Inc.
common stock. Instead of purchasing the stock, Hale could realize a gain from the
increase in the value of the Laredo shares with the use of a derivative financial
instrument, such as a call option. A call option gives the holder the option to buy
shares at a preset price (often referred to as the option price or the strike price).
For example, assume Hale enters into a call option contract with Baird Investment
Co., which gives Hale the option to purchase Laredo stock at $100 per share. If the
price of Laredo stock increases above $100, Hale can exercise its option and purchase
the shares for $100 per share. If Laredos stock never increases above $100 per share,
the call option is worthless and Hale recognizes a loss.
To illustrate the accounting for a call option, assume that Hale purchased a call option
contract on January 2, 2000 when Laredo shares are trading at $100 per share. The
terms of the contract give Hale the option to purchase 1,000 shares (referred to as the
notional amount) of Laredo stock at an option price of $100 per share; the option
expires on April 30, 2000. Hale purchases the call option for $400 and makes the
following entry:
January 2, 2000
Cash Option
Cash

400
400

This payment (referred to as the option premium) is generally much less than the cost
of purchasing the shares directly and indicates the value of the call option at this point
in time. In this case, the option has a fair value greater than zero, because there is
some expectation that the price of the Laredo shares will increase above the option
price during the option term (this is often referred to as the time value of the option).
On March 31, 2000, the price of Laredo shares has increased to $120 per share and
the intrinsic value of the call option contract is now $20,000 to Hale. The intrinsic
value is the difference between the market price and the preset option price at any
point in time. That is, Hale could exercise the call option and purchase 1,000 shares

from Baird Co. for $100 per share and then sell the shares in the market for $120 per
share. This gives Hale a gain of $20,000 ($120,000 - $100,000) on the option
contract. The entry to record the increase in the intrinsic value of the option is as
follows:
March 31, 2000
Cash Option
20,000
Unrealized Holding Gain or LossIncome

20,000

A market appraisal indicates that the time value of the option at March 31, 2000 is
$100. The entry to record this change in value of the option is as follows:
March 31, 2000
Unrealized Holding Gain or LossIncome
Call Option ($400 - $100)

300
300

At March 31, 2000, the call option is reported at fair value in the balance sheet of
Hale Co. at $20,100.12 The unrealized holding gain increases net income for the
period while the loss on the time value of the option decreases net income.
On April 1, 2000, the entry to record the settlement of the call option contract with
Baird Investment Co. is as follows:
March 31, 2000
Cash
Loss on Settlement of Call Option
Call Option

20,000
100
20,100

Illustration 26-4 summarizes the effects of the call option contract on Hales net
income.
Date
Transaction
Income (Loss) Effect
March 31, 2000
Net increase in value of
$19,700
call option ($20,000 $300)
April 1, 2000
Settle call option
(100)
Total net income
$19,600
Hedging Accounting
Criteria for hedge accounting
PSAK No. 55 requires hedges to meet certain criteria in order to qualify for hedge
accounting. These include requirements for formal designation of the hedging
relationships, as well as rules on hedge effectiveness.
A hedging relationship qualifies for hedge accounting if, at inception of the hedge,
there is formal documentation of the hedging relationship and the entitys risk
management objective and strategy for undertaking the hedge.
Hedge Documentation
1. Risk management objective and strategy
2. Identification of the hedging instrument
3. The related hedged item or transaction
4. The nature of the risk being hedged

5. How the entity will assess the hedging instruments effectiveness

What instrument can be designated as a hedging instrument?
All derivatives that involve an external party may be designated as hedging
instruments except for some written options. An external non-derivative financial
asset or liability may not be designated as a hedging instrument except as a hedge of
foreign currency risk.
What items or transactions can be hedged?
The fundamental principle is that the hedged item creates an exposure to risk that
could affect the income statement.
The hedged item can be:
1. A single asset, liability, firm commitment or highly probable forecast transaction.
2. A group of assets, liabilities, firm commitments or highly probable forecast
transactions with similar risk characteristics.
3. A non-financial asset or liability (such as inventory) for either foreign currency
risk or the risk of changes in the fair value of the entire item.
4. A held-to-maturity investment for foreign currency risk or credit risk (but not
interest rate risk).
5. A portion of the risk or cash flows of any financial asset or liability (however, for
one-sided risk, only the intrinsic value can be hedged).
6. A net investment in a foreign operation.
Hedge accounting is prohibited for hedges of net positions, but it is possible to track
back from the net position to a gross position and to designate a portion of the latter as
the hedged item if it meets the other criteria for hedge accounting.
Categories of hedges
Hedge accounting may be applied to three types of hedging relationships: fair value
hedges, cash flow hedges and hedges of a net investment in a foreign operation.
Fair value hedges
A fair value hedge is a hedge of the exposure to changes in the fair value of a
recognized asset or liability or a previously unrecognized firm commitment to buy or
sell an asset at a fixed price, or an identified portion of such an asset, liability or firm
commitment, that is attributable to a particular risk and could affect reported profit or
loss. In a fair value hedge, the gain or loss from re-measuring the hedging instrument
at fair value (derivative) or the foreign currency component of its carrying amount
(non-derivative) is recognized immediately in the income statement. At the same time,
the carrying amount of the hedged item is adjusted for the gain or loss attributable to
the hedged risk; the change is also recognized immediately in the income statement to
offset the value change on the derivative. Entities are also permitted to apply fair
value hedge accounting to be applied to a portfolio hedge of interest rate risk
(sometimes referred to as a macro hedge). Special requirements apply to this type of
hedge. A common type of fair value hedge is the use of interest rate swaps (discussed
below) to hedge the risk changes in interest rates will impact the fair value of debt
obligations. Another typical fair value hedge is the use of put options to hedge the risk
that an equity investment will decline in value.
Cash flow hedges

A cash flow hedge is a hedge of the exposure to variability in cash flows that: (a) is
attributable to a particular risk associated with a recognized asset or liability or a
forecast transaction; and (b) could affect reported profit or loss. Hedges of the foreign
currency risk associated with firm commitments may be designated as cash flow
hedges. The portion of the gain or loss on the hedging instrument that is determined to
be an effective hedge is recognized directly in equity.
The gain or loss deferred in equity is recycled to the income statement when the
hedged cash flows affect income. If the hedged cash flows result in the recognition of
a non-financial asset or liability on the balance sheet, the entity can choose to adjust
the basis of the asset or liability by the amount deferred in equity. This choice has to
be applied consistently to all such hedges. However, such basis adjustment is
prohibited if a financial asset or liability results from the hedged cash flows.
Hedges of a net investment in a foreign operation
Under IAS 21, The effects of changes in foreign operations, the net investment in a
foreign operation is the amount of the reporting entitys interest in the net assets of
that operation. If a derivative or non-derivative is designated as a hedge of that
interest, the portion of the gain or loss on the hedging instrument that is determined to
be an effective hedge is recognized directly in equity.
Hedge effectiveness/ineffectiveness
PSAK No. 55 requires the hedge to be highly effective if it is to qualify for hedge
accounting. There are separate tests to be applied prospectively and retrospectively
and these tests are mandatory:
Prospective effectiveness testing is performed at inception of the hedge and at each
subsequent reporting date during the life of the hedge. This testing consists of
demonstrating that the entity expects changes in the fair value or cash flows of the
hedged item to be almost fully offset (that is, nearly 100 per cent) by the changes in
the fair value or cash flows of the hedging instrument.
Retrospective effectiveness testing is performed at each reporting date throughout
the life of the hedge in accordance with a methodology set out in the hedge
documentation. The objective is to demonstrate that the hedging relationship has been
highly effective by showing that actual results of the hedge are within the range of 80125 per cent.
Hedge ineffectiveness is systematically and immediately reported in the income
statement.
Discontinuing hedge accounting
Hedge accounting is discontinued prospectively if any of the following occurs:
1. A hedge fails the effectiveness tests.
2. The hedging instrument is sold, terminated or exercised.
3. The hedged position is settled.
4. Management decides to revoke the hedge relationship.
5. In a cash flow hedge, the forecast transaction that is hedged is no longer
expected to take place.
When a debt instrument (a non-derivative liability) has been adjusted for changes in
fair value under a hedging relationship, the adjusted carrying amount becomes
amortized cost. Any premium or discount is then amortized through the income
statement over the remaining period to maturity of the liability. If a cash flow hedge
relationship ceases, the amounts accumulated in equity is maintained in equity until

the hedged item affects profit or loss. However, if the hedge accounting ceases
because the forecast transaction that was hedged is no longer expected to take place,
gains and losses deferred in equity have to be recognized in the income statement
immediately. Any amounts accumulated in equity while a hedge of net investment
was effective remain in equity until the disposal of the related net investment.
Illustration of Hedge Accounting Treatment
Interest Rate Swap
To illustrate the accounting for a fair value hedge, assume that Jones Company issues
$1,000,000 of 5-year 8% fixed-rate bonds on January 2, 2001. The entry to record this
transaction is as follows:
January 2, 2001
1,000,000

Cash
Bonds Payable

1,000,000

A fixed interest rate was offered to appeal to investors, but Jones is concerned that if
market interest rates decline, the fair value of the liability will increase and the
company will suffer an economic loss. To protect against the risk of loss, Jones
decides to hedge the risk of a decline in interest rates by entering into a 5-year interest
rate swap contract. The terms of the swap contract to Jones are:
1. Jones will receive fixed payments at 8% (based on the $1,000,000 amount).
2. Jones will pay variable rates, based on the market rate in effect throughout the
life of the swap contract. The variable rate at the inception of the contract is
6.8%.
As depicted in Illustration, by using this swap Jones can change the interest on the
bonds payable from a fixed rate to a variable rate.

The settlement dates for the swap correspond to the interest payment dates on the debt
(December 31). On each interest payment (settlement date), Jones and the
counterparty will compute the difference between current market interest rates and the
fixed rate of 8% and determine the value of the swap. As a result, if interest rates
decline, the value of the swap contract to Jones increases (Jones has a gain), while at
the same time Joness fixed-rate debt obligation increases (Jones has an economic
loss). The swap is an effective risk management tool in this setting because its value is
related to the same underlying (interest rates) that will affect the value of the fixedrate bond payable.
Thus, if the value of the swap goes up, it offsets the loss related to the debt obligation.
Assuming that the swap was entered into on January 2, 2001 (the same date as the

issuance of the debt), the swap at this time has no value; therefore no entry is
necessary:
January 2, 2001
No entry requiredMemorandum to note that the swap contract is signed.
At the end of 2001, the interest payment on the bonds is made. The journal entry to
record this transaction is as follows:
December 31, 2001
Interest Expense
80,000
Cash (8% * $1,000,000)

80,000

At the end of 2001, market interest rates have declined substantially and therefore the
value of the swap contract has increased. Recall (see Illustration 26-6) that in the
swap, Jones is to receive a fixed rate of 8% or $80,000 ($1,000,000 * 8%) and pay a
variable rate (which in this case is 6.8%) or $68,000. Jones therefore receives $12,000
($80,000 - $68,000) as a settlement payment on the swap contract on the first interest
payment date. The entry to record this transaction is as follows:
December 31, 2001
Cash

12,000
Interest Expense

12,000

In addition, a market appraisal indicates that the value of the interest rate swap has
increased $40,000. This increase in value is recorded as follows:
December 31, 2001
Swap Contract
40,000
Unrealized Holding Gain or LossIncome

40,000

This swap contract is reported in the balance sheet, and the gain on the hedging
transaction is reported in the income statement. Because interest rates have declined,
the company records a loss and a related increase in its liability as follows:
December 31, 2001
Unrealized Holding Gain or LossIncome
Bonds Payable

40,000
40,000

The loss on the hedging activity is reported in net income, and bonds payable in the
balance sheet is adjusted to fair value. Illustration indicates how the asset and liability
related to this hedging transaction are reported on the balance sheet.

Jones Company
BALANCE SHEET (PARTIAL)

December 31, 2001

Current Assets
Swap Contract
Liabilities
Bonds Payable

$40,000
$1,040,000

The effect on the Jones Company balance sheet is the addition of the swap asset and
an increase in the carrying value of the bonds payable. Illustration indicates how the
effects of this swap transaction are reported in the income statement.
Jones Company
INCOME STATEMENT (PARTIAL)
For the Year Ended December 31, 2001
Interest Expense ($80,000 - $12,000)
Other Income
Unrealized Holding Gain Swap
Unrealized Holding Loss Bonds Payable
Net gain (loss)

$68,000

$40,000
(40,000)
$0

On the income statement, interest expense of $68,000 is reported. Jones has

effectively changed the debts interest rate from fixed to variable. That is, receiving a
fixed rate and paying a variable rate on the swap convert the fixed rate on the bond
payable converted to variable, which results in an effective interest rate of 6.8% in
2001. Also, the gain on the swap offsets the loss related to the debt obligation, and
therefore the net gain or loss on the hedging activity is zero. The overall impact of the
swap transaction on the financial statements is shown in Illustration below.

In summary, the accounting for fair value hedges (as illustrated in the Jones example)
records the derivative at its fair value in the balance sheet with any gains and losses
recorded in income. Thus, the gain on the swap offsets or hedges the loss on the bond
payable due to the decline in interest rates. By adjusting the hedged item (the bond
payable in the Jones case) to fair value, with the gain or loss recorded in earnings, the
accounting for the Jones bond payable deviates from amortized cost. This special

accounting is justified in order to report accurately the nature of the hedging

relationship between the swap and the bond payable in the balance sheet (both the
swap and the debt obligation are recorded at fair value) and the income statement
(offsetting gains and losses are reported in the same period).
Speculation in Foreign Currency Markets
An entity also may decide to speculate in foreign currency as with any other
commodity. For example, a U.S. company expects that the dollar will strengthen
against the Swiss franc, that is, that the direct exchange rate will decrease. In this
case, the U.S. Company might speculate with a forward exchange contract to sell
francs for future delivery, expecting to be able to purchase them at a lower price at the
time of delivery.
The economic substance of this foreign currency speculation is to expose the investor
to foreign exchange risk for which the investor expects to earn a profit. The exchange
rate for valuing accounts related to speculative foreign exchange contracts is the
forward rate on the contract date of (or on the date of previous valuation) and the
forward exchange rate available for the remaining term of the contract. The forward
exchange rate is used to value the forward contract.
Illustration:
The following example illustrates the accounting for U.S. Company entering into a
speculative forward exchange contract in Swiss francs (SFr), a currency in which the
company has no receivable, payables or commitments.
1. On October 1, 2001, when the spot rate was $0.73 = SFr 1, Peerless Products
entered into a 180-day forward exchange contract to deliver SFr 4,000 at a
forward rate of $0.74 = SFr 1. Thus, the forward contract was to deliver SFr 4,000
and receive $2,960 (SFr 4,000 x $0.74).
2. On December 31, 2001 the balance sheet date, the forward rate for a 90-day
forward contract was $0.78 = SFr 1, and the spot rate for francs was $0.75 = SFr
1.
3. On April 1, 2002, the company acquired SFr 4,000 in the open market and
delivered the francs to the broker, receiving the agreed-upon forward contract
price of $2,960.
At this date, the spot rate was $0.77 = SFr 1
A summary of the direct exchange rates for this illustration follows.
U.S. Dollar-Equivalent of 1 Franc
Date
Spot rate
Forward rate
Remark
October 1, 2001
$0.73
$0.74 (180 days) Enter 180-day speculative
forward contract
December 31, 2001
0.75
0.78 (90 days) Balance sheet date
April 1, 2002
0.77
Deliver Swiss francs and
receive dollars to settle
forward contract
The entries for those transactions are as follows:
October 1, 2001
Dollar receivable from Exchange Broker
2,960
($)
Foreign Currency Payable to Exchange

2,960

Broker (SFr)
Enter into speculative forward exchange contract:
$2,960 = SFr 4,000 x $0.74, the 180-day forward rate.
December 31, 2001
Foreign Currency Transaction Loss
160
Foreign Currency Payable to Exchange
160
Broker (SFr)
Recognize speculation loss on forward contract for difference between initial 180-day
forward rate and forward rate for remaining term to maturity of contract of 90 days:
$160 = SFr 4,000 x ($0.78 - $0.74).
April 1, 2002
Foreign Currency Payable to Exchange
40
Broker (SFr)
Foreign Currency Transaction Gain
40
Revalue foreign currency payable to spot rate at the end of term of forward contract:
$40 = SFr 4,000 x ($0.78 - $0.77)
Foreign Currency Units (SFr)
3,080
Cash
3,080
Acquire foreign currency units (SFr) in open market when spot rate is $0.77 = SFr 1:
$3,080 = SFr 4,000 x $0.77 spot rate
Foreign Currency Payable to Exchange
3,080
Broker (SFr)
Foreign Currency Units (SFr)
3,080
Deliver foreign currency units to exchange broker in settlement of forward contract
Cash

3,080
Exchange

Dollars Receivable from

Broker ($)
Receive U.S. dollars from exchange broker as contracted

3,080

Key Observations from Illustration

The October 1 entry records the forward contract of 4,000 Swiss francs to the
exchange broker. The payable are denominated in a foreign currency but must be
translated into U.S. dollars (because dollars are Peerless Products reporting
currency). For speculative contracts, the forward exchange contract account are
valued to fair value by using the forward exchange rate for the remaining contract
term.
The December 31 entry adjusts the payable denominated in foreign currency to its
appropriate balance at the balance sheet date. The payable, Foreign Currency Payable
to Exchange Broker, is adjusted for the increase in the forward exchange rate from
October 1, 2001. The foreign currency transaction loss is reported on the income
statement, usually under Income (Loss).
Entry on April 1, 2002 revalues the foreign currency payable to its current U.S dollarequivalent value using the sport rate of exchange and recognized the speculation gain.
And the second entry on April 1, 2002 shows the acquisition of the 4,000 francs in the
open market at the spot rate of $0.77 = SFr 1. These francs will be used to settle the

foreign currency payable to the exchange broker. The next two entries on this date
recognize the settlement of the forward contract with the delivery of the 4,000 francs
to the exchange broker and the receipt of the $2,960 agreed to when the contract was
signed on October 1, 2001. The $40 foreign currency transaction gain is the difference
between the values of the foreign currency units on April 1 using the spot rate.
Note that the company has speculated and lost because the dollar actually weakened
against the Swiss franc. The net loss on the speculative forward contract was $120,
which is the difference between the $160 loss recognized in 2001 and the $40 gain
recognized in 2002.
Although this example shows a delivery of foreign currency units with a forward
exchange contract, a company also may arrange a future contract for the receipt of
foreign currency units. In this case, the October 1 entry is as follow:
Foreign Currency Receivable from
2,960
Exchange Broker (SFr)
Dollar Payable to Exchange Broker ($)
2,960
Accounting Treatment for Income Tax
Deferred tax assets
The re-measurement of a financial instrument at fair value generally creates a
temporary difference between the reporting basis and the tax basis of the instrument
under PSAK 46 Income Taxes, because the tax basis generally remains unchanged.
This difference requires recognition of deferred taxes. Unrealized losses can give rise
to deferred tax assets (DTAs), which must be assessed for realizibility. The IAI has
tentatively decided that entities would make the assessment of the realizability of a
DTA related to an AFS debt security in combination with the entitys other DTAs.
Currently, there are two acceptable methods for assessing the realizability of DTAs
related to unrealized losses on AFS debt securities recognized in OCI. The IAI is
proposing to eliminate the method that allows an entity to consider its intent and
ability to hold debt securities with unrealized losses until maturity, akin to a tax
planning strategy. Under that method, a valuation allowance wouldnt be necessary
for DTAs on unrealized losses, even when significant negative evidence (e.g., recent
cumulative losses) exists related to the realizability of other DTAs because the
specific DTAs are expected to reverse as time passes.
Akuntansi Reksa Dana PSAK No. 49
Karakteristik Usaha Reksa Dana
Dana yang dihimpun pada suatu reksa dana dapat ditarik setiap saat oleh pemodal
melalui penjualan unit penyertaan kepada reksa dana tersebut. Nilai Aktiva Bersih
reksa dana merupakan nilai dari seluruh unit penyertaan yang dijual oleh reksa dana
kepada investor. Nilai Aktiva Bersih reksa dana terbuka harus tersedia setiap hari
bursa. Bapepam sebagai pembina dan pengawas reksa dana memerlukan informasi
keuangan khusus yang mungkin tidak tersedia dalam laporan keuangan yang disajikan
berdasarkan Pernyataan ini.
Lingkup
Pernyataan ini mengatur perlakuan akuntansi untuk transaksi khusus yang berkaitan
dengan reksa dana. Hal-hal yang tidak diatur dalam Pernyataan ini diperlakukan
dengan mengacu pada prinsip akuntansi yang berlaku umum. Pernyataan ini berlaku
bagi setiap laporan keuangan reksa dana yang disajikan untuk pihak eksternal.

Pernyataan ini tidak mengatur perlakuan akuntansi bagi investor atas penyertaannya
pada suatu reksa dana.
Definisi
Reksa Dana adalah wadah yang dipergunakan untuk menghimpun dana dari
masyarakat pemodal untuk selanjutnya diinvestasikan dalam portofolio efek oleh
manajer investasi. Reksa Dana Terbuka adalah reksa dana yang dapat menawarkan
dan membeli kembali saham-sahamnya dari pemodal sampai dengan sejumlah modal
yang telah dikeluarkan. Kustodian adalah pihak yang memberikan jasa penitipan efek
dan harta lain yang berkaitan dengan efek serta jasa lain, termasuk menerima dividen,
bunga, dan hak-hak lain, menyelesaikan transaksi efek, dan mewakili pemegang
rekening yang menjadi nasabahnya. Efek adalah surat berharga, yaitu surat pengakuan
hutang, surat berharga komersial, saham, obligasi, tanda bukti hutang dan unit
penyertaan kontrak investasi kolektif.Termasuk dalam pengertian efek adalah kontrak
berjangka dan setiap derivatif lain dari efek.
Transaksi Reksa Dana untuk Portofolio Efek
Transaksi portofolio efek diakui dalam laporan keuangan reksa dana pada saat
timbulnya perikatan atas transaksi efek. Dalam transaksi efek di pasar reguler, tanggal
timbulnya perikatan transaksi berbeda dengan tanggal penyelesaian transaksi. Risiko,
manfaat dan potensi ekonomi timbul pada tanggal perikatan transaksi tersebut,
meskipun penyerahan atau penyerahan efek belum terjadi. Laporan keuangan reksa
dana harus menyajikan piutang transaksi efek atas tagihan yang timbul kepada
perusahaan efek dari penjualan efek pada tanggal perdagangan dan hutang transaksi
efek atas kewajiban yang timbul dari pembelian efek kepada perusahaan efek pada
tanggal perdagangan.
Penilaian Portofolio Reksa Dana
Portofolio efek dinilai berdasarkan harga pasar. Keuntungan atau kerugian yang
belum direalisasi akibat kenaikan atau penurunan harga pasar dilaporkan dalam
laporan operasi dan perubahan aktiva bersih periode berjalan. Efek yang
diperdagangkan di bursa mempunyai tingkat likuiditas yang tinggi dan mengalami
perubahan harga yang cukup cepat. Oleh karena itu, penilaian berdasarkan harga pasar
lebih mencerminkan nilai yang dapat direalisasi. Harga pasar tersedia di bursa dan
dipublikasikan secara harian. Dalam hal suatu efek tercatat pada lebih dari satu bursa,
maka harga pasar yang digunakan adalah harga terakhir pada bursa utama dimana
efek tersebut diperdagangkan.
Untuk efek dalam portofolio reksa dana yang perdagangannya tidak likuid atau harga
pasar yang tersedia tidak dapat diandalkan, maka efek tersebut dinilai berdasarkan
nilai wajar.
Meskipun suatu efek tercatat di bursa, dapat terjadi bahwa harga pasar efek tersebut
tidak tersedia atau tidak dapat diandalkan, karena efek tersebut tidak aktif
diperdagangkan. Dalam hal demikian, harus ditentukan nilai wajar dari efek tersebut.
Beban dan Pendapatan
Beban yang Berhubungan dengan Pengelolaan Investasi
Beban yang berhubungan dengan pengelolaan investasi diakui secara akrual dan
harian. Sesuai dengan karakteristiknya, reksa dana menerbitkan laporan nilai aktiva
bersih setiap hari. Oleh karena itu, perhitungan beban harus dilakukan secara harian.
Beban yang berhubungan dengan kegiatan reksa dana antara lain termasuk: beban
pengelolaan investasi sebagai imbalan atas jasa manajer investasi;beban transaksi

yang terdiri dari beban jasa pialang, beban bursa, dan beban lain yang terkait dengan
transaksi yang dilakukan untuk kepentingan portofolio efek; beban kustodian sebagai
imbalan atas jasa kustodian; dan beban penerbitan prospektus.
Pada umumnya jumlah beban reksa dana dan beban kustodian ditentukan dalam
kontrak berdasarkan persentase tertentu dari nilai aktiva bersih harian reksa dana yang
bersangkutan.
Keuntungan (Kerugian) Investasi Reksa Dana
Keuntungan (kerugian) investasi yang telah direalisasi dan yang belum direalisasi
diakui pada laporan laba rugi periode berjalan. Dalam kegiatan mengelola dana pada
suatu reksa dana, manajer investasi menginvestasikan dana tersebut dalam portofolio
efek. Keuntungan atau kerugian investasi berasal baik dari penjualan efek maupun
dari kenaikan (penurunan) nilai wajar efek. Untuk pelaporan reksa dana, keuntungan
atau kerugian tersebut dibagi ke dalam dua klasifikasi, yaitu: merupakan keuntungan
(kerugian) yang telah direalisasi, sedangkan yang berasal dari kenaikan (penurunan)
nilai wajar efek merupakan keuntungan (kerugian) yang belum direalisasi. Piutang
bunga dari efek hutang merupakan keuntungan yang belum direalisasi. Dalam
menghitung keuntungan (kerugian) penjualan efek digunakan metode rata-rata untuk
penilaian harga pokok yang dianut oleh industri reksa dana. Keuntungan (kerugian)
yang sudah direalisasi; dan Keuntungan (kerugian yang belum direalisasi.
Keuntungan (kerugian) yang berasal dari penjualan efek.
Pendapatan dari Pembagian Hak oleh Perusahaan
Pendapatan dari pembagian hak oleh perusahaan diakui pada tanggal ex (ex-date).
Dari kegiatan investasi pada saham dalam portofolio efek, akan diperoleh dividen,
saham bonus dan hak lain yang dibagikan oleh perusahaan. Untuk saham yang
tercatat di bursa saham, pada pembagian hak tersebut dikenal beberapa tahapan, yaitu:
tercatat di bursa cenderung untuk terpengaruh turun karena tidak lagi memiliki klaim
atas hak yang diumumkan perusahaan. Oleh sebab itu pembagian hak tersebut tidak
dicatat pada tanggal cum (cum-date).
Pendapatan Bunga
Pendapatan bunga dari efek hutang diakui secara akrual dan dilaporkan sebagai
pendapatan yang belum direalisasi. Potongan harga pembelian dari nilai pokok efek
hutang diakui sebagai piutang bunga dan diamortisasi sebagai pendapatan bunga
sepanjang umur efek hutang tersebut.
Obligasi yang dibeli dengan harga terpisah dari bunga berjalan, maka bunga yang
dibayar tersebut diakui sebagai piutang bunga. Tanggal pengumuman dividen oleh
perusahaan;tanggal cum (cum-date), yaitu tanggal yang menyatakan bahwa semua
saham beredar dari perusahaan dimaksud memiliki hak atas dividen atau saham bonus
atau hak lain yang akan dibagikan; tanggal ex (ex-date), yaitu tanggal dimana saham
perusahaan dimaksud tidak memiliki hak atas dividen, saham bonus atau hak lain.
Penyajian
Laporan Keuangan Reksa Dana
Laporan keuangan reksa dana terdiri dari: Laporan aktiva dan kewajiban;Laporan
operasi;Laporan perubahan aktiva bersih; dan Catatan atas laporan keuangan.
Laporan Aktiva dan Kewajiban. Tujuan laporan aktiva dan kewajiban adalah untuk
menyediakan informasi mengenai aktiva, kewajiban, dan aktiva bersih suatu reksa
dana dan informasi mengenai hubungan antar unsur tersebut pada waktu tertentu.

Laporan aktiva dan kewajiban disajikan dengan menggunakan metode tidak

dikelompokkan (unclassified) sehingga aktiva dan kewajiban tidak dikelompokkan
menjadi elemen lancar dan elemen tidak lancar. Pada bagian aktiva, akun portofolio
efek disajikan pada urutan pertama, sedangkan akun lainnya berdasarkan urutan
likuiditas. Akun kewajiban dilaporkan berdasarkan urutan jatuh tempo.
Laporan Operasi
Tujuan laporan operasi adalah untuk menyajikan perubahan aktiva bersih yang berasal
dari seluruh aktivitas investasi reksa dana, dengan melaporkan pendapatan investasi
berupa dividen, bunga, dan pendapatan lain-lain dikurangi beban-beban, jumlah
keuntungan (kerugian) transaksi efek yang telah direalisasi, dan perubahan nilai wajar
efek dalam portofolio efek yang belum direalisasi dalam satu periode. Penyajian
tersebut akan membantu pengguna laporan untuk memahami kontribusi setiap aspek
kegiatan investasi terhadap operasi reksa dana secara keseluruhan.
Laporan operasi disajikan dalam bentuk berjenjang (multiple-step) dengan
memisahkan pendapatan dan beban investasi dari keuntungan (kerugian) yang berasal
dari kenaikan atau penurunan nilai wajar portofolio efek (baik yang sudah direalisasi
maupun yang belum direalisasi).
Laporan Perubahan Aktiva Bersih
Tujuan laporan perubahan aktiva bersih adalah untuk menyajikan informasi ringkas
tentang perubahan aktiva bersih dari operasi dan perubahan aktiva bersih yang berasal
dari transaksi dengan pemegang saham atau pemilik unit penyertaan.
Laporan perubahan aktiva bersih disajikan dengan memisahkan antara perubahan
aktiva bersih yang berasal dari operasi dan perubahan aktiva bersih yang berasal dari
transaksi dengan pemegang saham atau pemilik unit penyertaan.
Pengungkapan
Informasi berikut ini harus diungkapkan dalam catatan atas laporan keuangan: ikhtisar
pembelian dan penjualan efek selama periode pelaporan yang memuat informasi
untuk tiap efek sebagai berikut:
Efek ekuitas
1. Nama efek;
2. Nilai total harga beli/jual;
3. Jumlah efek.
Efek hutang
1. Nama efek;N
2. ilai total harga beli/jual
3. Jumlah efek;
4. Nilai nominal;
5. Tanggal jatuh tempo;
6. Tingkat bunga;
7. Peringkat efek
Beban komisi Perantara Pedagang Efek selama periode pelaporanjumlah unit
penyertaan yang dimiliki oleh pemodal dan yang dimiliki oleh manajer investasi
rincian portofolio efek yang memuat informasi untuk tiap efek sebagai berikut: nama
efek;nilai wajar;jumlah efek;nilai nominal untuk efek hutang; tanggal jatuh tempo;
tingkat bunga;persentase nilai wajar dari efek terhadap total nilai wajar portofolio
efek.