Financial Instrument – PresentationScope: a statement to establish a principle of financial instrument presentation as liability or equity and offsetting financial asset and liability. It’s 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 entity3. Contractual Right

a. To accept cash or financial asset from other entityb. To exchange financial asset from other entity with potential gain conditionExample:a. Account Receivable b. Notes Receivable c. Loan Investmentd. Debt Investmente. Perpetual Payable Instrument

4. Derivative and Non-Derivative

Debt/Equity ClassificationClassification 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

obligation for principal

Cash obligation for coupon/dividends

Settlement in fixed number of shares

Classification

Ordinary shares No No N/A EquityRedeemable preference shares with 5% fixed dividend each year subject to availability of distributable profits

Yes Yes No Liability

Redeemable preference shares with discretionary dividend

Yes No Yes Liability for principal and equity for dividends

Convertible bond that converts into fixed number of shares

Yes Yes Yes Liability for bond and equity for conversion option

Convertible bond that converts into shares to the value of liability

Yes Yes No 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, DisclosureScope: 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 RecognitionInitial 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 dealer’s 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 short-term 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 Classification Sub-classification

Financial Asset

Fair value through profit and loss Trading securities

SecuritiesGovernment bondsDerivative

Loan and Receivable

CashTerm DepositPlacement on Bank

Other financial asset

Other ReceivableInterest ReceivableOthers

Held to maturity SecuritiesGovernment bonds

Available for saleSecuritiesGovernment bondsStock 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 CategoriesAn instrument’s 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 entity’s 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 re-measured 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

Fair Value through Profit and Loss

Available for Sale Omitted (vice versa)Held to Maturity Omitted (vice versa)Loan and Receivable Permitted but a rare situation

Available for Sale Held to Maturity Permitted if there’s intention to hold

Loan and Receivable Permitted but a rare situation

Held to Maturity Available for Sale Permitted with fulfilling tainting rule*

Tainting RuleEntity 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 principaliii) Due to inappropriate extraordinary event

Measurement after Initial RecognitionClassification

Balance Sheet

Transaction cost

Fair Value Gain (Loss)

Interest and Dividend

Impairment

Impairment Recovery

FVTPL Fair value

Expensed Income statement

Income statement

By default

By default

HTM Amortized cost

Capitalized - Income statement

Income statement

Income statement

LR Amortized cost

Capitalized - Income statement

Income statement

Income statement

AFS Fair value

Debt/Capitalized

Other comprehensive income

Income statement

Income statement

Income statement

Fair value

Equity/Capitalized

Other comprehensive income

Income statement

Income statement

Other comprehensive income

Cost method

Unobservable Equity/Capitalized

- Income statement

Income statement

-

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 arm’s 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 instrument’s 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 arm’s 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 AssetA 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 issuer2. High probability of bankruptcy3. Disappearance of an active market because of financial difficulties4. 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 entity’s 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 instrument’s 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 AccountingDerivative 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 exceptions—in 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: Underlying—Determination 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 contract’s 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 terms2. Net settlement through a market mechanism3. 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 contract’s default provisions. For instance, a contract’s 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 contract’s 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 contract’s gain.For example, if a contract required the party in a gain position under the contract to invest $100 in the other party’s 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 contract’s underlying, an analysis of those terms would lead to the conclusion that the contract’s settlement terms were in substance a structured payout of the contract’s

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 derivative—regardless of whether the net shares were readily convertible to.

Net Settlement Through a Market MechanismIn 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 contract’s 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 seller’s 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 contract’s 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 seller’s 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 contract’s 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 swaption—an 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 Settlement—Readily Convertible to Cash—Effect 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 option’s 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 issuer’s (lender’s) 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 entity’s 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 Classification ExampleA contract that is settled by the issuer delivering a fixed number of the issuer’s own shares in exchange for a fixed monetary amount of cash or other assets

Equity A warrant giving the counterparty a right to subscribe for fixed number of the entity’s shares for a fixed amount of cash

A contract that requires an entity to repurchase (redeem) its own shares for cash or other financial assets at fixed or determinable date or on demand

Liability (redemption amount)

Forward contract to repurchase own share for cash

An obligation to redeem own shares for cash that is conditional on the counterparty exercising a right to redeem

Liability (redemption amount)

Written option to repurchase own shares for cash

A contract that will be settled in cash for other assets where the amount of cash that will be received or delivered is based on changes in the market price of the entity’s own equity

Derivative asset or liability

Net cash-settled share option

A contract that will be settled in a variable number of own shares determined so as to equal a fixed value or a valued based on changes in an underlying variable (for example, a commodity price)

Derivative asset or liability

Forward contract on the price of gold that is settled in own shares

A contract containing multiple Derivative Derivative asset or

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

asset or liability

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

debt instrument2. Debt security with interest or

principal linked to commodity or equity prices

3. Credit derivatives embedded in a host debt instrument

4. Sales or repurchases not in (a) measurement currency of either party, (b) currency in which products are routinely denominated in international commerce, or (c) currency commonly used in the economic environment in which transaction takes place

1. Interest rate swap embedded in a debt instrument

2. Inflation-indexed lease contracts3. Cap and floor in a sale and purchase

contract4. Pre-payment option in a mortgage

where the option’s exercise price is approximately equal to the mortgage’s amortized cost on each exercised date

5. A forward foreign exchange contract that results in payments in either party’s reporting currency

6. Dual currency bonds7. Foreign currency denominated debt

Determining whether a contract contains an embedded derivative and the embedded derivative’s 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 / return2. Right to prepay / repay early / accelerate repayment / early exercise3. Right to purchase / sell additional units4. Right to terminate / cancel / extend

5. Right to exchange / exchangeable into6. Right to convert / convertible into7. Indexed to / adjusted by / referenced to8. Pricing based on the following formula9. Option between / choice between10. Notional / underlying / strike / premium11. 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. FreestandingOne 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 entity’s 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 option—an 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 Instrument (Trading

Securities)

Derivative Financial Instrument (Call Option)

Payment Provision Stock price times the number of shares

Change in stock price (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 cash

Receive cash equivalent, 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 Laredo’s 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, 2000Cash Option 400

Cash 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, 2000Cash Option 20,000

Unrealized Holding Gain or Loss—Income 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, 2000Unrealized Holding Gain or Loss—Income 300

Call Option ($400 - $100) 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, 2000Cash 20,000Loss on Settlement of Call Option 100

Call Option 20,100

Illustration 26-4 summarizes the effects of the call option contract on Hale’s net income.

Date Transaction Income (Loss) EffectMarch 31, 2000 Net increase in value of

call option ($20,000 - $300)

$19,700

April 1, 2000 Settle call option (100)Total net income $19,600

Hedging AccountingCriteria 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 entity’s risk management objective and strategy for undertaking the hedge.

Hedge Documentation1. Risk management objective and strategy2. Identification of the hedging instrument3. The related hedged item or transaction4. The nature of the risk being hedged

5. How the entity will assess the hedging instrument’s 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 hedgesHedge 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 hedgesA 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 entity’s 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 80-125 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 TreatmentInterest Rate SwapTo 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, 2001Cash 1,000,000

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 Jones’s 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 fixed-rate 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, 2001No entry required—Memorandum 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, 2001Interest 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, 2001Cash 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, 2001Swap Contract 40,000

Unrealized Holding Gain or Loss—Income 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, 2001Unrealized Holding Gain or Loss—Income 40,000

Bonds Payable 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 CompanyBALANCE SHEET (PARTIAL)

December 31, 2001Current Assets

Swap Contract $40,000Liabilities

Bonds Payable $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 CompanyINCOME STATEMENT (PARTIAL)

For the Year Ended December 31, 2001Interest Expense ($80,000 - $12,000) $68,000

Other IncomeUnrealized Holding Gain – Swap $40,000Unrealized Holding Loss – Bonds Payable (40,000)Net gain (loss) $0

On the income statement, interest expense of $68,000 is reported. Jones has effectively changed the debt’s 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 MarketsAn 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 RemarkOctober 1, 2001 $0.73 $0.74 (180 days) Enter 180-day speculative

forward contractDecember 31, 2001 0.75 0.78 (90 days) Balance sheet dateApril 1, 2002 0.77 Deliver Swiss francs and

receive dollars to settle forward contract

The entries for those transactions are as follows:October 1, 2001Dollar 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, 2001Foreign Currency Transaction Loss 160

Foreign Currency Payable to Exchange Broker (SFr)

160

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, 2002Foreign Currency Payable to Exchange Broker (SFr)

40

Foreign Currency Transaction Gain 40Revalue 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) 3,080Cash 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 Broker (SFr)

3,080

Foreign Currency Units (SFr) 3,080Deliver foreign currency units to exchange broker in settlement of forward contract

Cash 3,080Dollars Receivable from Exchange Broker ($)

3,080

Receive U.S. dollars from exchange broker as contracted

Key Observations from IllustrationThe 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 dollar-equivalent 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 Exchange Broker (SFr)

2,960

Dollar Payable to Exchange Broker ($) 2,960

Accounting Treatment for Income TaxDeferred 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 entity’s 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 wouldn’t 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 DanaDana 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.

LingkupPernyataan 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 DanaPortofolio 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 PendapatanBeban 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 DanaKeuntungan (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 PerusahaanPendapatan 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 BungaPendapatan 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.

PenyajianLaporan Keuangan Reksa DanaLaporan 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 OperasiTujuan 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.

PengungkapanInformasi 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;N2. ilai total harga beli/jual3. 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.