ATJ Asian Tax Journal

Asian Tax Journal

Print ISSN 1738-3323 Online ISSN 2733-9270

Classification of Hybrid Securities with Respect to Issuer and Investor

  • Hyun Geol Shin College of Business Administration, Konkuk University

Asian Tax Journal Vol. 15 No. 3 (2014), pp. 235-259

Abstract

Recently, the Korea Accounting Institute classified certain hybrid securities issued by DoosanInfracore in 2012 as owners’ equity, and declared that investors should consider such securities asequity instruments. This study reviews this decision, and investigates the logical reasoning for howissuers and investors should classify and calculate hybrid securities that are issued by companiesunder various conditions. The Korea Accounting Institute explained that since there are no contractual obligationsregarding the repayment of principal and interest upon the issuance of hybrid securities, the issuershould classify hybrid securities as owner’s equity. However, this explanation seems to lacksubstance. Although hybrid securities cannot be classified as financial liabilities due to the absenceof contractual obligations as of the day they are issued, they correspond to the definition of debtas stated by the “Framework for the Preparation and Presentation of Financial Statements,” andcan thus be regarded as debt. In addition, tax authorities stated that the interest paid on hybridsecurities, which the company classifies as owners’ equity, could be included in the exclusion；this indicates that the interest payments are classified as debt. The Korea Accounting Institute also announced that the host contract in hybrid securities isregarded as equity for investors, and the call option, which is not closely related to the hostcontract, is journalized separately. However, it is unlikely that the host contract in hybridsecurities reflects residual equity with respect to the issuer’s net assets. After the investors incombined instrument identify embedded derivatives (for example, callable call options and optionsfor the extension of debt maturity), the remaining elements of the host contracts can be regardedas debt securities in maturity. Because hybrid securities are of various types and are issued in complex conditions, it isdifficult to define uniform accounting processes for issuers and investors. In the case of the hybridsecurities issued by Doosan Infracore, counter to the Korea Accounting Institute’s interpretation,the issuer can classify them as debt；in addition, it is also deemed reasonable for investors toclassify them as debt instrument. In the absence of clear definitions in IFRS regarding theclassification of such hybrid securities, this study is significant in that it clarifies the accountingprocess regarding the treatment of hybrid securities in accounting practice.

Keywords

  • hybrid securities
  • financial liability
  • debt instrument
  • embedded derivatives

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