EITF Reviews Call and Put Options on Debt Instruments

Are puts and call options that can accelerate the repayment of principal in a debt instrument clearly and closely related or do they need to be bifurcated from the host debt instrument?

In considering this question the EITF evaluated two alternatives.

• Alternative A, which received the majority of the votes, requires the current four-step approach codified in ASC 815-15-25-42.
• Alternative B would require the current four-step approach AND evaluation of the contingency itself.

Under Alternative A a “contingently exercisable option” referencing a not clearly and closely related event (IPO) or price (gold index), would not require bifurcation of the embedded feature (call/put options) if it met the three clearly and closely related criteria under paragraph 815-15-25-1 because only the contingency itself is not clearly and closely related.

Alternative B would take the opposite view: the contingency itself would also need to be evaluated to see if it’s clearly and closely related.

Alternative A is supported by staff and received seven votes out of twelve, as it reduces complexity. However, there remain concerns that not bifurcating the embedded derivative may result in obscured indexing.

The staff also recommended the Moderate Retrospective Transition of the proposed draft. Staff recommended that only disclosures under paragraph 815-15-50-1 and 815-15-50-2 be required. There was discussion surrounding companies that have already elected bifurcation to separately account for the embedded features, and most are in favor of allowing them to continue the fair value accounting as a one- time election.

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