CA Final Accounting Standards AS 21 TO 32 by ICAI

By | March 10, 2015
1.X Ltd. has entered into a contract by which it has the option to sell its identified
Property, Plant and Equipment (PPE) to Y Ltd. for ` 100 million after 3 years whereas its
current market price is ` 180 million. Is the put option of X Ltd. a financial instrument?
Explain.
Answer
It is necessary to evaluate the past practice of X Ltd. If X Ltd. has the past practice of settling
net, then it becomes a financial instrument. If X Ltd. Intends to sell the identified PPE and
settle by delivery and there is no past practice of settling net, then the contract should not be
accounted for as derivative under AS 30 and AS 31.
A financial instrument is any contract that gives rise to a financial asset of one entity and a
financial liability or equity instrument of another entity.
A financial asset is any asset that is:
(a) cash;
(b) an equity instrument of another entity;
(c) a contractual right:
(i) to receive cash or another financial asset from another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions that
are potentially favourable to the entity; or
(d) a contract that will or may be settled in the entity’s own equity instruments and is:
(i) a non-derivative for which the entity is or may be obliged to receive a variable
number of the entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the exchange of a fixed amount
of cash or another financial asset for a fixed number of the entity’s own equity
instruments.
A financial liability is any liability that is:
(a) a contractual obligation:
(i) to deliver cash or another financial asset to another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under
conditions that are potentially unfavourable to the entity; or
(b) a contract that will or may be settled in the entity’s own equity instruments and is
(i) a non-derivative for which the entity is or may be obliged to deliver a variable
number of the entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the exchange of a fixed amount
of cash or another financial asset for a fixed number of the entity ’s own equity
instruments.
An equity instrument is any contract that evidences a residual interest in the assets of an
entity after deducting all of its liabilities.
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.

2.As 30
Example: Omega Ltd. has entered into hedging relationship. At the year end the entity
assesses the fair value of the hedged item and hedging instrument and the gains and lossesICAI TEXT BOOK PROBLEMS ACCOUNTING STANDARDS FROMS AS(21 TO 32)
arise as follows:
Hedged Item – gain of ` 1,000
Hedged instrument – loss of ` 1,200
The effectiveness of the hedge has been calculated as:
` 1,200/1,000 = 120%. The hedge is assessed as highly effective as it is between 80 to
125%.

3.On February 1, 2011 Omega Ltd enters in to a contract with Beta Ltd. to receive the fair value of 1000
Omega’s own equity shares outstanding as of 31.1.2012 in exchange for payment of
` 1,04,000 in cash i.e., ` 104 per share on 31.1.2012. The contract will be settled in net cash-
(i) fair value of forward on 1.2.2011 – Nil
(ii) fair value of forward 31.12.2011 ` 6,300
(iii) fair value of forward 31.1.2012 ` 2,000.
Give journal entries on the basis that the net amount is settled in cash. Omega Ltd closes its
books on
31st December.
Solution
(a) 1.2.2011
No entry is required because the fair value of derivatives is zero and no cash is paid or
received
(b) 31.12.2011
Forward Asset Dr. 6,300
To Gain 6,300
(c ) 31.1.2012
Loss Dr. 4,300
To Forward Asset 4,300
(d) Cash Dr. 2,000
To Forward asset 2,000

4.Example: A lease contract contains a provision that rentals increase each year by 10%.
Is there an embedded derivative in this contract?
Answer: No. There is no embedded derivative since lease rental does not depend on any
underling basis.

5.Example: X Co. entered with Y Co. to sell coal over a period of two year. The coal price
will be determined as per the increase in electricity prices. Is there an embedded
derivative?
Answer: Yes, there is embedded derivative because cash flow of the contract or settlement
price is dependent on underlying electricity price.
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