IFRS PRACTICAL IMPLEMENTATION GUIDE AND WORKBOOK

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Wiley lFRS: Practical Implementation Guide and Workbook

embedded equity conversion option. Because the bond is not measured at fair value with

changes in fair value recognized in profit or loss and an equity conversion option is not closely

related to a host debt contract, the embedded derivative is separated and accounted for as a de–

rivative.

(d) A lease contract that has a rent adjustment clause based on inflation contains an embedded

derivative on inflation. However, the embedded derivative is not separated from the lease con–

tract because a rent adjustment clause based on inflation is considered to be closely related to

the host lease contract.

(e) An issued convertible debt instrument contains an embedded equity conversion option. How–

ever, the equity conversion option generally is not accounted for as a derivative but is separated

as an equity component in accordance with lAS 32 and accounted for as own equity.

7.1.7 Interpretation 9,

Reassessment of Embedded Derivatives,

of the Intern ational Finan cial Re–

porting Interpretation s Committee cl arifies that an entity is required to assess whether an embedded

derivative is required to be separated and accounted for as a derivative when the entity first

becomes a party to the contract that cont ains the potenti al embedded derivat ive. Th e entity is

precluded from subsequently reassessing whether the contract contains an embedded derivative

unless there is a change in the terms of the contrac t that significantly modifies the cas h flows that

otherwise wo uld be required under the contrac t.

8. HEDGE ACCOUNTING

Hedgin g is a risk management technique that invo lves using one or more derivatives or other

hedgin g instruments to offset changes in fair value or cas h flows of one or more assets, liabilities,

or fut ure transactions. lAS 39 contains spec ial acco unting principles for hedging activi ties . When

certa in conditions are met, entities are permitted to depart from some of the ordinary acco unting

requirements and instead apply

hedge accounting

to assets and liabil ities that form part of hedging

relati onships. These requirements are optional (i.e., entiti es are not required to apply hedge ac–

counting unless they decide to do so). Th e effect of hedge accounting is that ga ins and losses on the

hedgin g instrument and the hedged item are recogn ized in the same periods (i.e., ga ins and losses

are matched ).

8.1

Hedging Relationships

8.1.1 A

hedging relationship

has two comp onents:

(I)

hedging instrument.

A hedging instrument is a derivative or, for a hedge of the risk of

changes in foreign curre ncy exchange rates, a nonderiv ative financial asse t or nonderiva–

tive financial liability. To be designated as a hedging instrument, the fair value or cas h

flows of the hedging instrument should be expected to offset changes in the fair value or

cash flows of the hedged item . In addition, the hedging instrumen t must be with an ex ternal

part y (i.e ., an intern al derivative with another division does not qualify as a hedging in–

strume nt) and not be a written opt ion (or net writt en option).

(2) A

hedged item.

A hedged item is an asset, liability, firm commitme nt, highl y probable

forecast transact ion , or net inves tment in a foreign operation. To be designated as a hedged

item, the de signated hedged item should expose the entity to risk of changes in fair value or

future cas h flows.

8.1.2 lAS 39 identi fies three types of hedging relationship s:

(I )

Fair value hedges

(2) Cas h flow hedges

(3) Hedges of a net investmen t in a fore ign ope ration

8.2

Accounting Treatment

Hedge accounting link s the acco unting for

(I )

the hedging instrument and (2) the hedged item to

allow offs etting changes in fair value or cas h flows to be recogn ized in the financia l statements in

same time periods. Generally, hedge accounting involves either one of these two accounting treat–

ments: