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On the Radar

Contracts on an Entity's Own Equity

April 2024
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On the Radar
Contracts on an Entityʼs Own Equity

Entities raising capital must apply the highly complex, rules-based guidance in U.S. GAAP to determine whether (1) freestanding contracts such as warrants, options, and forwards to sell equity shares are classified as liabilities or equity instruments and (2) convertible instruments contain embedded equity features that require separate accounting as derivative liabilities. To reach the proper accounting conclusion, they must consider the following key questions:
ASC 815-40 provides guidance on the reporting entity’s accounting for contracts that are potentially indexed to, and potentially settled in, an entity’s own equity (also known as equity-linked financial instruments). The following are examples of the types of instruments that are within the scope of ASC 815-40: