Briefing at a Glance:

  • The Financial Accounting Standards Board (FASB) is nearing completion of a proposed accounting standards update that will affect how companies account for certain convertible bonds and responds to concerns raised by the Big Four accounting firms about current rules.
  • FASB confirmed the update at a meeting on Wednesday (July 17), aiming to clarify whether companies should treat the settlement of certain convertible debt instruments as a so-called "induced conversion" or a "debt extinguishment," and to provide guidance for debt with cash conversion features.
  • The comment period for the proposed debt standards update ended in March, and the final update is expected to be effective for all companies for fiscal years (and interim periods within those fiscal years) beginning after December 15, 2025.

Deep Dive:

Convertible bonds are a hybrid security that companies issue as debt, which investors can convert into equity after the business grows and the stock price rises, CFO Dive previously reported. Because companies that historically issued such bonds were often struggling businesses, it was once viewed by some as toxic debt, but its popularity has increased during the recent credit crunch.

Last year, the number of U.S. companies entering the convertible bond market surged, with issuance climbing 77% to $48 billion, according to a Financial Times report citing data from the London Stock Exchange Group (LSEG).

The standards change underpinning generally accepted accounting principles (GAAP) stems from a request submitted in November 2022 by PricewaterhouseCoopers, KPMG, Ernst & Young, and Deloitte to the U.S. accounting standard-setter's Emerging Issues Task Force (EITF).

The request letter noted that the difference between induced conversion accounting and debt extinguishment accounting could be "material" to a company's financial statements.

"When debt extinguishment accounting applies, the extinguishment gain or loss is now calculated based on the difference between the carrying amount of the convertible debt instrument and the fair value of the consideration issued at settlement," the comment letter stated. "Therefore, the conversion value of the debt could result in a significant extinguishment gain or loss."

The issue stems from the issuance of ASU 2020-06, which eliminated the separate accounting model for certain debt instruments with cash conversion features, according to a December KPMG report.

This standards update follows FASB's final vote on new expense disclosure rules. The new rules will require public companies to disclose certain expenses, such as inventory purchases, employee compensation, depreciation, and amortization of intangible assets, in the notes to their financial statements. The new requirements are expected to be relatively burdensome for companies, as compliance will require them to collect significantly more data from multiple departments, CFO Dive previously reported.

These new rules will be effective for fiscal years beginning after December 15, 2026, and for interim periods within fiscal years beginning after December 15, 2027.

Correction: This article has been updated to clarify that the comment period for the proposed debt standards update ended in March.