With more than 14 million electric vehicle (EV) registrations in 2023 worldwide and 2023 seeing an increase in EV sales over 2022 by 35 percent, manufacturers are probably happy – but not those producing the traditional internal combustion engine (ICE) vehicles. This is according to the International Energy Agency’s Global EV Outlook 2024: Trends in Electric Cars.
This statistic is important because it illustrates how assets can be rendered less useful and potentially turn into stranded assets. A stranded asset, defined, is an asset that’s no longer able to provide its owner the profitable payback they originally expected. The difference is based on shifts, primarily negative, that impact the asset’s expected productive performance.
How & Why Assets Become Stranded
When an asset loses its earning power, normally due to extraneous circumstances, like the invention of a more efficient battery, it can become stranded. For example, a machine that’s exclusively capable of making an internal combustion engine (ICE) vehicle can be considered stranded as the transition to electric vehicles (EV) is made. Since the machine is less valuable because it makes fewer and fewer ICE vehicles, it could be impaired or stranded.
This example illustrates that new technology, especially one that moves forward, can render equipment less useful than previously expected. Other ways assets can be stranded include administrative modifications, evolving societal conventions, etc.
Considerations for Stranded Assets by Testing an Asset for Impairment
The primary way to establish if an asset is stranded is to run an impairment test on it. Stranded assets impact the income statement via a non-cash loss, along with impacting the balance sheet by reducing asset value. Therefore, companies must report a loss on the income statement as it’s completely written off the balance sheet.
Whether it’s through the lens of International Financial Reporting Standards (IFRS) or generally accepted accounting principles (GAAP), whether an asset is intangible or tangible, when its value issue is less than book value or impaired, it must be written down.
GAAP Standard
The first step is to determine the carrying value. This is calculated by subtracting the accumulated depreciation from the asset’s original cost. From there, the asset’s projected undiscounted future cash flows (UFCF) are analyzed against the asset’s carrying value. If the total UFCF is less than the carrying value, an asset is considered impaired.
IFRS Standard
The first step also looks at an asset’s carrying value. From there, if either of the following two values is lower than the carrying value, it’s considered impaired:
Present value of future cash flows generated by the asset (the so-called “fair value in use” consideration)
Fair value less costs to sell the asset
Financial Statement Considerations
If an asset is impaired or stranded, whatever amount the asset drops by, it lowers the business’ asset’s value on the balance sheet. Looking at the income statement, it’s considered a loss. Additionally, since a devaluation is not considered a cash event, it doesn’t trigger any cash outflows. A real-world example can better illustrate this.
The following assumes a business reports its accounting under GAAP. It could be a company that produces fracking equipment to recover natural gas and crude oil. With the uncertainty of domestic fossil fuel policy, specifically where land can be explored, the threat of OPEC and/or Iran being able to determine their production, and the threat of increased government spending on green energy, fracking equipment has a current carrying value of $10 million. However, with increased competition from the three different factors, the same assets can produce an aggregate of $7.5 million in undiscounted future cash flows.
Based on GAAP, since the carrying value is $2.5 million more than the total undiscounted future cash flows, the business would need to record the same amount for an impairment loss. The journal entries would be:
Loss from Impairment Debit:. $2.5 million
Provision for Impairment Losses Credit: $2.5 million
Conclusion
When it comes to accounting for stranded assets, it’s important to ensure guidelines are followed based on the type of accounting standards businesses must follow.
JR Wright Business Advisory Services
How to Account for Stranded Assets
October 1, 2024 · Accounting News, Blog
⏱ 4 min read
With more than 14 million electric vehicle (EV) registrations in 2023 worldwide and 2023 seeing an increase in EV sales over 2022 by 35 percent, manufacturers are probably happy – but not those producing the traditional internal combustion engine (ICE) vehicles. This is according to the International Energy Agency’s Global EV Outlook 2024: Trends in Electric Cars.
This statistic is important because it illustrates how assets can be rendered less useful and potentially turn into stranded assets. A stranded asset, defined, is an asset that’s no longer able to provide its owner the profitable payback they originally expected. The difference is based on shifts, primarily negative, that impact the asset’s expected productive performance.
How & Why Assets Become Stranded
When an asset loses its earning power, normally due to extraneous circumstances, like the invention of a more efficient battery, it can become stranded. For example, a machine that’s exclusively capable of making an internal combustion engine (ICE) vehicle can be considered stranded as the transition to electric vehicles (EV) is made. Since the machine is less valuable because it makes fewer and fewer ICE vehicles, it could be impaired or stranded.
This example illustrates that new technology, especially one that moves forward, can render equipment less useful than previously expected. Other ways assets can be stranded include administrative modifications, evolving societal conventions, etc.
Considerations for Stranded Assets by Testing an Asset for Impairment
The primary way to establish if an asset is stranded is to run an impairment test on it. Stranded assets impact the income statement via a non-cash loss, along with impacting the balance sheet by reducing asset value. Therefore, companies must report a loss on the income statement as it’s completely written off the balance sheet.
Whether it’s through the lens of International Financial Reporting Standards (IFRS) or generally accepted accounting principles (GAAP), whether an asset is intangible or tangible, when its value issue is less than book value or impaired, it must be written down.
GAAP Standard
The first step is to determine the carrying value. This is calculated by subtracting the accumulated depreciation from the asset’s original cost. From there, the asset’s projected undiscounted future cash flows (UFCF) are analyzed against the asset’s carrying value. If the total UFCF is less than the carrying value, an asset is considered impaired.
IFRS Standard
The first step also looks at an asset’s carrying value. From there, if either of the following two values is lower than the carrying value, it’s considered impaired:
Present value of future cash flows generated by the asset (the so-called “fair value in use” consideration)
Fair value less costs to sell the asset
Financial Statement Considerations
If an asset is impaired or stranded, whatever amount the asset drops by, it lowers the business’ asset’s value on the balance sheet. Looking at the income statement, it’s considered a loss. Additionally, since a devaluation is not considered a cash event, it doesn’t trigger any cash outflows. A real-world example can better illustrate this.
The following assumes a business reports its accounting under GAAP. It could be a company that produces fracking equipment to recover natural gas and crude oil. With the uncertainty of domestic fossil fuel policy, specifically where land can be explored, the threat of OPEC and/or Iran being able to determine their production, and the threat of increased government spending on green energy, fracking equipment has a current carrying value of $10 million. However, with increased competition from the three different factors, the same assets can produce an aggregate of $7.5 million in undiscounted future cash flows.
Based on GAAP, since the carrying value is $2.5 million more than the total undiscounted future cash flows, the business would need to record the same amount for an impairment loss. The journal entries would be:
Loss from Impairment Debit:. $2.5 million
Provision for Impairment Losses Credit: $2.5 million
Conclusion
When it comes to accounting for stranded assets, it’s important to ensure guidelines are followed based on the type of accounting standards businesses must follow.
Disclaimer
These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact a professional regarding the topics in these articles. The images linked to these articles are protected by copyright and should not be copied for any reason.
According to EY, the convertible debt market saw whipsaw action in issuances. Between 2015 and 2019, average issuance varied between $40 billion and $45 billion. However, it dropped to $22 billion in 2022 but re-accelerated to $52 billion in 2023. While the levels of issuance varied, the way this type of debt is accounted for has remained much calmer.
Defining a Convertible Bond
A convertible bond is a type of debt security that gives the investor the right to exchange the bond, at certain milestones, for a pre-determined percentage of equity in the issuing company. This investment vehicle has both equity and debt features.
Since this type of investment gives investors the potential for equity conversion into a company, the debt/bond side of it may present investors with a nominal coupon remittance or a potentially zero-coupon payment. However, there are important accounting considerations for this type of investment vehicle via generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS).
IFRS
When it comes to IFRS, convertible bonds are considered blended securities because they are partially debt and partially equity. The debt piece is accounted for by discounting the principal and interest paid out to the bondholder at the company’s cost of straight debt. The following example illustrates how it’s calculated:
The business presents a 10-year, $250 million convertible bond, providing investors with a 2.5 percent coupon rate and a 9.5 percent straight cost of debt. Based on discounting these variables, the present value of the principal and coupon payments is: $182,805,096 (assuming end-of-year, annual coupons). To determine the equity proportion, we must take $250 million and subtract $182,805,096, which equals $67,194,904.
Looking at the journal entry, we have the following breakdown:
Looking at the interest expense this is calculated as follows:
The 9.5 percent (straight debt cost) is multiplied by the net present value of the beginning debt liability balance of the first year ($182,805,096), which is $17,366,484.12. Since there’s a coupon payment of (2.5 percent X $250,000,000 = $6,250,000), the difference between $17,366,484.12 and $6,250,000 = $11,116,484.12 should be “accreted” to the debt liability or the debt balance.
The journal entry would be as follows:
Debit: Interest Expense $17,366,484.12
Credit: Cash $6,250,000
Credit: Accretion of Debt Discount – Liability = $11,116,484.12
Now, if at the bond’s maturity, the investor is unable to convert the bond to equity according to the terms of the convertible note, the entire $250 million bond will be paid back to the investor. The journal entry will be as follows:
Debit: Convertible Debt $250,000,000
Credit: Cash $250,000,000
If, however, the investor of the convertible bond is favorable to it being exchanged, the journal entry will be as follows:
Debit: Convertible Debt $250,000,000
Credit: Share Capital – Shareholder’s Equity = $250,000,000
This explanation assumes that convertible bonds are only able to be converted into company equity. However, if the bond is cash-settled, there are alternate considerations. It’s also assumed that the bond is issued at year’s end and makes its coupon payments once a year.
GAAP
Under generally accepted accounting principles (GAAP), present standards treat it as straight debt. This accounting practice changed from GAAP’s previous treatment of bifurcating it, similar to IFRS’ current treatment.
At issuance, the journal entries are as follows:
Debit: Cash $250,000,000
Credit: Convertible Debt $250,000,000
With this accounting treatment, it’s recognized as an interest expense. Since this contrasts with IFRS, no accretion is required under GAAP. This assumes there are no additional debt issuance costs when calculating interest expenses. Therefore, assuming the same initial debt amount at par and the coupon rate for year one, it’s the rate for the debt issuance multiplied by the full debt amount ($250,000,000).
The journal entry is as follows:
Debit: Interest Expense $6,250,000
Credit: Cash $6,250,000
If the convertible debt doesn’t present a good opportunity for the investor, they’ll receive the principal back. The journal entry is as follows:
Debit: Convertible Debt $250,000,000
Credit: Cash $250,000,000
If, however, the convertible debt presents the investor with an opportunity to convert to equity, and it’s exercised, the journal entry is presented as follows:
Debit: Convertible Debt $250,000,000
Credit: Share Capital – Shareholder’s Equity $250,000,000
Conclusion
While these examples do not explore all the potential scenarios when accounting for convertible debt, they show what considerations accountants must keep in mind when analyzing a transaction.
JR Wright Business Advisory Services
Accounting for Convertible Debt Instruments
September 1, 2024 · Accounting News, Blog
⏱ 4 min read
According to EY, the convertible debt market saw whipsaw action in issuances. Between 2015 and 2019, average issuance varied between $40 billion and $45 billion. However, it dropped to $22 billion in 2022 but re-accelerated to $52 billion in 2023. While the levels of issuance varied, the way this type of debt is accounted for has remained much calmer.
Defining a Convertible Bond
A convertible bond is a type of debt security that gives the investor the right to exchange the bond, at certain milestones, for a pre-determined percentage of equity in the issuing company. This investment vehicle has both equity and debt features.
Since this type of investment gives investors the potential for equity conversion into a company, the debt/bond side of it may present investors with a nominal coupon remittance or a potentially zero-coupon payment. However, there are important accounting considerations for this type of investment vehicle via generally accepted accounting principles (GAAP) and International Financial Reporting Standards (IFRS).
IFRS
When it comes to IFRS, convertible bonds are considered blended securities because they are partially debt and partially equity. The debt piece is accounted for by discounting the principal and interest paid out to the bondholder at the company’s cost of straight debt. The following example illustrates how it’s calculated:
The business presents a 10-year, $250 million convertible bond, providing investors with a 2.5 percent coupon rate and a 9.5 percent straight cost of debt. Based on discounting these variables, the present value of the principal and coupon payments is: $182,805,096 (assuming end-of-year, annual coupons). To determine the equity proportion, we must take $250 million and subtract $182,805,096, which equals $67,194,904.
Looking at the journal entry, we have the following breakdown:
Looking at the interest expense this is calculated as follows:
The 9.5 percent (straight debt cost) is multiplied by the net present value of the beginning debt liability balance of the first year ($182,805,096), which is $17,366,484.12. Since there’s a coupon payment of (2.5 percent X $250,000,000 = $6,250,000), the difference between $17,366,484.12 and $6,250,000 = $11,116,484.12 should be “accreted” to the debt liability or the debt balance.
The journal entry would be as follows:
Debit: Interest Expense $17,366,484.12
Credit: Cash $6,250,000
Credit: Accretion of Debt Discount – Liability = $11,116,484.12
Now, if at the bond’s maturity, the investor is unable to convert the bond to equity according to the terms of the convertible note, the entire $250 million bond will be paid back to the investor. The journal entry will be as follows:
Debit: Convertible Debt $250,000,000
Credit: Cash $250,000,000
If, however, the investor of the convertible bond is favorable to it being exchanged, the journal entry will be as follows:
Debit: Convertible Debt $250,000,000
Credit: Share Capital – Shareholder’s Equity = $250,000,000
This explanation assumes that convertible bonds are only able to be converted into company equity. However, if the bond is cash-settled, there are alternate considerations. It’s also assumed that the bond is issued at year’s end and makes its coupon payments once a year.
GAAP
Under generally accepted accounting principles (GAAP), present standards treat it as straight debt. This accounting practice changed from GAAP’s previous treatment of bifurcating it, similar to IFRS’ current treatment.
At issuance, the journal entries are as follows:
Debit: Cash $250,000,000
Credit: Convertible Debt $250,000,000
With this accounting treatment, it’s recognized as an interest expense. Since this contrasts with IFRS, no accretion is required under GAAP. This assumes there are no additional debt issuance costs when calculating interest expenses. Therefore, assuming the same initial debt amount at par and the coupon rate for year one, it’s the rate for the debt issuance multiplied by the full debt amount ($250,000,000).
The journal entry is as follows:
Debit: Interest Expense $6,250,000
Credit: Cash $6,250,000
If the convertible debt doesn’t present a good opportunity for the investor, they’ll receive the principal back. The journal entry is as follows:
Debit: Convertible Debt $250,000,000
Credit: Cash $250,000,000
If, however, the convertible debt presents the investor with an opportunity to convert to equity, and it’s exercised, the journal entry is presented as follows:
Debit: Convertible Debt $250,000,000
Credit: Share Capital – Shareholder’s Equity $250,000,000
Conclusion
While these examples do not explore all the potential scenarios when accounting for convertible debt, they show what considerations accountants must keep in mind when analyzing a transaction.
Disclaimer
These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact a professional regarding the topics in these articles. The images linked to these articles are protected by copyright and should not be copied for any reason.
Comprehensive income (CI), which is defined as the sum of net income (NI) and other comprehensive income (OCI), gives both the internal and external audiences a 30,000-foot perspective of a company’s valuation. Understanding how it’s broken down, how it’s accounted for, and how it’s interpreted by different audiences is essential to making favorable impressions.
In the banking industry, the Government Accountability Office (GAO) found 2,705 material restatements occurred between the beginning of January 1997 and the first half of 2006. Businesses that fail to report financial information accurately the first time are not uncommon – but this can have harmful effects on their bottom line.
Comprehensive Income Components Defined
Net income, which is the first component of comprehensive income, is the difference between a company’s total revenue and the taxes, interest, and expenses. This shows how profitable a company is during a certain accounting time frame. It’s important to keep in mind that net income, along with all of the deductions taken from the total revenue, are reflected on the income statement because this financial document recognizes only incurred expenses and earned income during a set accounting period.
Other comprehensive income (OCI), the second half of CI, is a way to account for and analyze unrealized or not yet booked gains or losses. This can include investing ventures, cash flow hedges, debt securities, foreign currency exchange rate adjustments, pension obligations, etc. It’s important to keep in mind that along with being reported on the company’s balance sheet, it may also be reported on a separate statement of comprehensive financial statement.
Further Financial Statement Reporting Considerations
On June 17, 2011, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) 2011-05, Comprehensive Income – Topic 220: Presentation of Comprehensive Income.
One of the original three ways that was in effect but has been repealed with this modification from FASB was to report elements of other comprehensive income (OCI) as a portion of the statement of changes in stockholders’ equity. However, many professionals argued that this change simplified the reading and analysis of how OCI impacts a business’ total operations.
Based on FASB’s Accounting Standards Codification (ASC) 220-10-45-1, comprehensive income can be presented in either one statement or two discrete, successive statements.
#1: Single, Successive Statement Option
Based on ASC 220-10-45-1A, the following figures are required to be reported:
Components of net income
Total net income
Components of other comprehensive income
Total for other comprehensive income
Total for comprehensive income
#2: Two Discrete, Successive Statements
Based on ASC 220-10-45-1B, the following two figures are required:
1. Statement of net income
2. Statement of other comprehensive income
The following data for each respective successive financial statement should be included:
1a. Components of net income
b. Total net income
2a. Components of other comprehensive income
b. Total for other comprehensive income
c. Total for comprehensive income
Conclusion
While each business has its own challenges and opportunities, when it comes to preparing financial statements it’s essential to prepare financial statements that are transparent and follow FASB reporting requirements to maintain attractiveness to internal and external stakeholders.
JR Wright Business Advisory Services
How to Report for Comprehensive Income
August 1, 2024 · Accounting News, Blog
⏱ 3 min read
Comprehensive income (CI), which is defined as the sum of net income (NI) and other comprehensive income (OCI), gives both the internal and external audiences a 30,000-foot perspective of a company’s valuation. Understanding how it’s broken down, how it’s accounted for, and how it’s interpreted by different audiences is essential to making favorable impressions.
In the banking industry, the Government Accountability Office (GAO) found 2,705 material restatements occurred between the beginning of January 1997 and the first half of 2006. Businesses that fail to report financial information accurately the first time are not uncommon – but this can have harmful effects on their bottom line.
Comprehensive Income Components Defined
Net income, which is the first component of comprehensive income, is the difference between a company’s total revenue and the taxes, interest, and expenses. This shows how profitable a company is during a certain accounting time frame. It’s important to keep in mind that net income, along with all of the deductions taken from the total revenue, are reflected on the income statement because this financial document recognizes only incurred expenses and earned income during a set accounting period.
Other comprehensive income (OCI), the second half of CI, is a way to account for and analyze unrealized or not yet booked gains or losses. This can include investing ventures, cash flow hedges, debt securities, foreign currency exchange rate adjustments, pension obligations, etc. It’s important to keep in mind that along with being reported on the company’s balance sheet, it may also be reported on a separate statement of comprehensive financial statement.
Further Financial Statement Reporting Considerations
On June 17, 2011, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) 2011-05, Comprehensive Income – Topic 220: Presentation of Comprehensive Income.
One of the original three ways that was in effect but has been repealed with this modification from FASB was to report elements of other comprehensive income (OCI) as a portion of the statement of changes in stockholders’ equity. However, many professionals argued that this change simplified the reading and analysis of how OCI impacts a business’ total operations.
Based on FASB’s Accounting Standards Codification (ASC) 220-10-45-1, comprehensive income can be presented in either one statement or two discrete, successive statements.
#1: Single, Successive Statement Option
Based on ASC 220-10-45-1A, the following figures are required to be reported:
Components of net income
Total net income
Components of other comprehensive income
Total for other comprehensive income
Total for comprehensive income
#2: Two Discrete, Successive Statements
Based on ASC 220-10-45-1B, the following two figures are required:
1. Statement of net income
2. Statement of other comprehensive income
The following data for each respective successive financial statement should be included:
1a. Components of net income
b. Total net income
2a. Components of other comprehensive income
b. Total for other comprehensive income
c. Total for comprehensive income
Conclusion
While each business has its own challenges and opportunities, when it comes to preparing financial statements it’s essential to prepare financial statements that are transparent and follow FASB reporting requirements to maintain attractiveness to internal and external stakeholders.
Disclaimer
These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact a professional regarding the topics in these articles. The images linked to these articles are protected by copyright and should not be copied for any reason.
With more than 14 million electric vehicle (EV) registrations in 2023 worldwide and 2023 seeing an increase in EV sales over 2022 by 35 percent, manufacturers are probably happy – but not those producing the traditional internal combustion engine (ICE) vehicles. This is according to the International Energy Agency’s Global EV Outlook 2024: Trends in Electric Cars.
According to EY, the convertible debt market saw whipsaw action in issuances. Between 2015 and 2019, average issuance varied between $40 billion and $45 billion. However, it dropped to $22 billion in 2022 but re-accelerated to $52 billion in 2023. While the levels of issuance varied, the way this type of debt is accounted for has remained much calmer.
Comprehensive income (CI), which is defined as the sum of net income (NI) and other comprehensive income (OCI), gives both the internal and external audiences a 30,000-foot perspective of a company’s valuation. Understanding how it’s broken down, how it’s accounted for, and how it’s interpreted by different audiences is essential to making favorable impressions.