Key Points

  • The Financial Accounting Standards Board (FASB) on Tuesday issued new rules affecting how companies account for certain convertible debt. Convertible debt is a hybrid security that companies issue as debt or bonds, which investors can convert into equity as the company grows and its stock price rises.
  • FASB said in a statement that the issuance of the accounting standards update will "improve the relevance and consistency of the application of the induced conversion guidance," which is part of generally accepted accounting principles (GAAP). The standard is formally titled "Subtopic 470-20: Debt—Debt with Conversion and Other Options."
  • According to a previous CFO Dive report, the change stems from a request made in November 2022 by PwC, KPMG, EY, and Deloitte to the Emerging Issues Task Force of the U.S. accounting standard-setter. The amendments will be effective for annual reporting periods after December 15, 2025, and interim reporting periods within those periods.

Deep Dive

Convertible bonds are sometimes viewed as "toxic" debt, but they can be an attractive option for tech startups or other growth companies facing short-term financing challenges, CFO Dive previously reported. The new standard comes as the convertible bond market appears to be gaining momentum.

According to a report by global asset manager Lord Abbett citing BofA Global Research data, U.S. primary market convertible bond issuance rose to $51.6 billion last year from $28.4 billion in 2022, but remains below the recent peak of $113.7 billion set in 2020. Issuance is expected to rise to $80 billion this year. Recent issuers include: Bitcoin treasury company MicroStrategy announced on November 20 the pricing of convertible senior notes totaling $2.6 billion.

The issuance of the standards update is the final formal step in the delivery of the final updated guidance by the U.S. accounting standard-setter.

These debt rules were developed after questions arose about how reporting preparers should apply the guidance to cash conversions or other settlement methods that have become popular. Under current GAAP guidance, companies must decide whether a settlement of convertible debt that differs from the original terms should be treated as an induced conversion or a debt extinguishment, according to the announcement.

The amendments clarify that certain settlement methods, such as convertible debt with a cash conversion feature or that is not currently convertible, should be treated as induced conversions.

Under the updated guidance, actions that constitute a change in terms include: a decrease in the conversion price resulting in the issuance of additional shares, the issuance of warrants or other securities not included in the original terms, and the payment of cash to holders of converted debt during a specific period.

The issuance of the convertible debt standards update comes just weeks after FASB released its long-awaited income statement expense rules. Earlier this week, the board also sought further public comment on language clarifying the guidance in the new rules regarding the effective date for interim periods for public companies with non-calendar-year reporting periods.

FASB said in the exposure draft of the proposed update that, due to the way the guidance on dates is worded, companies with non-calendar-year year-ends might believe they must comply with the new disclosure requirements in interim reporting periods rather than annual reporting periods. The draft of the proposed update states that the new language "would clarify that all public companies must adopt the guidance in annual reporting periods after December 15, 2026, and interim reporting periods within annual reporting periods after December 15, 2027."

The public comment deadline for the expense standard update is December 10.