CHAPTER 12

EQUITY
Section 22: Equity
Equity- residual interest in the assets of an entity after deducting all of its liabilities

Computation for Equity

 Investment by owners of the entity
 Add, additions to those investments earned though profitable operations and
retained for use in operations.
 Less, reductions in owners’ investments as a result of unprofitable operations
and distributions to owners.

Exceptions of Equity Instruments

 Interests in Subsidiaries (Section 9: Consolidated and Separate Financial
Statements), Associates (Section 14: Investment in Associates) and Joint
Ventures (Section 15: Interests in Joint Ventures)
 Employer’s Rights and Obligation under Employee Benefit Plans (Section 28:
Employee Benefits)
 Contracts for Contingent consideration in a Business Combination (Section 19:
Business Combinations and Goodwill) applies only to Acquirer
 Financial Instruments, Contracts and Obligations under Share-based Payment
Transactions (Section 26: Share-based Payment) except treasury shares
purchases, sold, issued or cancelled in connection with employee share option
plans, employee share purchase plans and all other share-based payment
arrangements.

Instruments Classified as Equity

 Financial Instruments meets the definition of Liability but classified as Equity
because they represent residual interest in net assets of entity:
 a) Puttable Instruments – financial instrument that gives holder the right to sell
instruments back to issuer for cash or another financial asset or automatically
redeemed or repurchased by issuer on occurrence of an uncertain future event
or death or retirement of instruments holder.
 Requisites of Puttable Instrument classified as Equity Instrument
 Entitle holder to a pro rate share of entity’s net assets in the event of entity’s
liquidation. (Entity’s Net Assets – assets that remain after deducting all other
claims on its assets)
 Instrument is in the class of instruments that is subordinate to all other classes of
instruments
 All financial instruments in the class of instruments that is subordinate to all other
classes of instruments have identical features
 Instruments does not include any contractual obligation to deliver cash or another
financial asset to another entity, or to exchange financial assets or financial
liabilities with another entity under conditions that are potentially unfavorable to
the entity, and it is not a contract that will or may be settled in entity’s own equity
instruments
 Total expected cash flows attributable to instrument over life of instrument are
based substantially on Profit or Loss, change in recognized net assets or change
in Fair Value of recognized and unrecognized net assets of entity over the life of
instrument (excluding any effect of instrument)
b) Instruments or components of instrument, that are subordinates to all other
classes of instruments are classified as equity if they impose on entity an
obligation to deliver to another party a pro rate share of the net assets of entity
only on liquidation
c) Members’ Shares in Co-operative entities and similar instruments are equity if:
 Entity has an unconditional right to refuse redemption of members’ shares,
or
 Redemption is unconditionally prohibited by local law, regulation or entity’s
governing charter

Classification of Financial Instrument as Equity

 Instrument represent a residual interest in the net assets of the issuing entity
such that the holder thereof is entitled to settlement equal to a pro rata share of
the net assets of the entity only upon Liquidation.

Recognition
 Entity shall recognize the issue of shares or other equity instrument as equity
when it issues those instruments and another part is obliged to provide cash or
other resources to the entity in exchange for the instruments:
 a) If equity instruments are issued before entity receive cash or other
resources, entity shall present amount receivables as an offset to
equity in Statement of Financial Position, not as an asset
b) If the entity receives the cash or other resources before the equity
instruments are issued, and the entity cannot be required to repay
the cash or other resources received, the entity shall recognize the
corresponding increase in equity to the extent of consideration
received
c) To the extent that the equity instruments have been subscribed for
but not issued and the entity has not yet received the cash or other
resources, the entity shall not recognize an increase in equity

Measurement
 Equity Instrument are measured at Fair Value of the cash or other
resources received or receivable net of transaction cost
 If payment is deferred and time value of money is material, initial
measurement shall be on Present Value basis
 Transaction cost of an equity transaction shall accounted as deduction from
equity
 Income tax related to transaction cost shall be accounted in accordance with
Section 29: Income Tax
 Increase in Equity arising on issue of shares or other equity instruments is
presented in statement of financial position determined by applicable laws

Section 26

The focus of this topic is on the general requirements for the presentation of share-
based payment transactions applicable to Section 26 Share-based payment of the IFRS
Standard for SMEs.
It introduces the subject and reproduces the official text, along with explanatory notes
and examples designed to improve the understanding of the requirements.
Identifies the important judgments needed in the presentation of share-based payment
transactions. It also includes questions aimed at testing your understanding of the
requirements and case studies that provide a practical opportunity to apply the
sharebased payment transaction requirements applicable to the IFRS Standard for
SMEs.
Section 26 provides for the accounting of all share-based payment transactions,
including those that are equity-settled, cash-settled and those in which the terms of the
arrangement make it possible for the entity to decide whether to settle cash (or other
assets) or to issue equity instruments

In summary, Section 26 sets out the following requirements:

 the fair value of the goods or services received in an equity-settled share-based

payment transaction is recognised in the financial statements either as an asset
or, if the asset recognition criteria are not met, as an expense. There is a
corresponding increase in equity.
 if the fair value of the goods or services cannot be estimated reliably, as for
employee services, the goods and services are measured by reference to the fair
value of the equity instruments granted. (Specific guidance is included, on how to
account for vesting conditions, modifications, cancellations and settlements.)
 goods or services received in a cash-settled share-based payment transaction
are measured at the fair value of the liability incurred. At each reporting date the
fair value of the liability is remeasured through profit or loss until it is settled.
 share-based payment transactions that provide a choice of settlement in cash or
equity are generally accounted for as cash-settled share-based payment
transactions.

However, if an entity has a past practice of settling the transactions by issuing equity
instruments, or the choice of settlement has no commercial substance, the entity is
required to account for the transaction as an equity-settled share-based payment
transaction.
Section 26 provides relief for group entities by permitting a share-based payment
expense to be measured on the basis of a reasonable allocation of the expense for the
group.

Share-based payment (IFRS 2)

Share-based payment agreements are transactions in which a third party is entitled to

receive equity instruments of the entity (or another group entity) or cash amounts based
on the value of such equity instruments in exchange for goods or services
There are three main categories of share-based payment transactions within the
scope of IFRS 2 (IFRS 2.1-6):

 equity-settled share-based payment transactions,

 cash-settled share-based payment transactions,
 share-based payment transactions with cash alternatives.

IFRS 2 applies also to group arrangements where different entities receive goods or
services and settle share based payments.
IFRS 2 does not apply to assets acquired in a business combination, however share
based payment transactions with employees of the acquire (target) that relate to future
services (i.e. are not part of a consideration for a transfer of control over a business) are
within the scope IFRS 2.

General principle for recognition of share-based payment transactions

Entities recognize goods or services acquired in a share-based payment transaction as
they are obtained/received. Application of other IFRS will determine whether entities
should recognise an expense or an asset as a result of goods or services received
(IFRS 2.7-9).

Recognition of equity-settled share-based payment transactions

Definition of equity-settled share-based payment transactions

Equity-settled share-based payment transactions are transactions in which the entity
receives goods or services in exchange for its own equity instruments (e.g. shares,
options). Transactions that are settled by other entity (e.g. by a parent) are also treated
as equity-settled from a perspective of the entity receiving goods or services (IFRS
2.Appendix A). Group arrangements are covered in a separate section.

General principles for recognition

Goods or services received in equity-settled share-based payment transactions are
measured at their fair value, unless it cannot be estimated reliably (e.g. for
arrangements with charities). In such a case, fair value of goods or services is
determined with reference to the fair value of equity instruments granted. In particular,
IFRS 2 considers that employee services received in a share-based payment
transaction should be recognised with reference to fair value of equity instruments
granted, as it is not possible to reliably estimate and distinguish services received in
exchange for equity instruments from services received for other forms of remuneration
(IFRS 2.10-13A), IFRS 2 uses the term 'employees and others providing similar
services to encompass also individuals who work for the entity in the same way as
individuals regarded as employees for legal or tax purposes (IFRS 2 Appendix A).

From a profit or loss perspective, it does not make any difference whether an entity, in
order to fulfil its obligations stemming from share-based payment arrangements, issues
new equity instruments or repurchases them on the market. See also a discussion on
credit entry below.

Measurement date and grant date

The measurement date is the date when an entity obtains goods or services or,
specifically for transaction with employees, the grant date. It is the date at which the fair
value of equity instruments granted is measured (see detailed definitions in Appendix A
to IFRS 2). The grant date has the following characteristics:

 both parties have agreed to a share-based payment arrangement and its

conditions (sometimes the agreement may be implicit, i.e. no documents need to
be signed), and
 all necessary approvals have been obtained (e.g. approval by shareholders or
the supervisory board).

Arrangements with employees often come with obligatory service period lasting a few
years, but the fair value of equity instruments is set at a grant date and remains
unchanged.
It is important to note that goods or services acquired in a share-based payment
transaction should be recognised as they are obtained/received. It is possible that grant
date might occur after employees to whom the equity instruments were granted have
begun rendering services (IFRS 2.1G4).

Example: Grant date

On 1 January 2021 the management board of Entity A announced a share award plan
to its employees, specifying all terms and conditions. The vesting period for this plan is
3 years. The announcement also made clear that this share award plan needs to be
approved by the supervisory board. The supervisory board approved the plan on 20
February 2021.
In this example, the grant date is 20 February, but the expense is recognised starting
from 1 January 2021. Fair value of equity instruments, used as a basis for recording
relevant expense, is estimated on 1 January before it is known on 20 February.

Credit entry and allocation within equity

The credit entry of equity-settled share-based payment transactions goes to equity.

IFRS 2 does not specify which part of equity, but says in a few places that transfers
within equity are allowed. The approach of an entity usually results from national law
which can set some rules regarding presentation of items within equity (e.g. separate
presentation of share capital equalling face value of shares in issue). Some entities set
up a separate reserve within equity labelled 'share based-payments' where all the credit
entries go, other entities recognise the credit entry directly in retained earnings. The
latter seems more convenient in the long term, as entities won't get stuck with a
separate item within equity that relates to arrangements that ended many years before
reporting period.

If actual shares are issued, or previously acquired treasury shares are passed on to
employees, reclassification within share capital, treasury shares and a separate share
based payment reserve will be necessary. In any case, total equity cannot change after
the vesting date (IFRS 2.23). This approach may be counter-intuitive in some instances,
8.g. share options that were granted to employees and vested, but were never
exercised But the lapse of a share options does not change the fact that they are
financial instruments that were actually issued to employees in exchange for their
services (work) and a related expense cannot be reversed at a later date (IFRS
2.BC218-219).

Treatment of a reload feature

Reload features are not taken into account when estimating the fair value of options
granted. Reload option, if granted, is treated as a new option grant (IFRS 2.22, see
Appendix A for detailed definitions).

Vesting and non-vesting conditions in equity settled share-based payment

transactions

Vesting conditions - decision tree

The requirements for treatment of vesting conditions in equity settled share-based
payment transactions are summarised in a decision tree below, more discussion
follows.
For cash-settled share-based payment transactions, see a separate section below:

Vesting conditions and vesting period - definitions

Before discussing vesting and non-vesting conditions, a short recap of definitions:

To vest: To become an entitlement. Under a share_based payment arrangement, a

counterparty's right to receive cash, other assets or equity instruments of the entity
vests when the counterparty's entitlement is no longer conditional on the satisfaction of
any vesting conditions.
Vesting condition: A condition that determines whether the entity receives the services
that entitle the counterparty to receive cash, other assets or equity instruments of the
entity, under a share_based payment arrangement. A vesting condition is either a
service condition or a performance condition.
Vesting period: The period during which all the specified vesting conditions of a share
based payment arrangement are to be satisfied.
Performance condition: A vesting condition that requires:

a. the counterparty to complete a specified period of service (i.e. a service

condition), the service requirement can be explicit or implicit; and
b. specified performance target(s) to be met while the counterparty is rendering the
service required in point a.
A performance target is defined by reference to:
a. the entity's own operations (or activities) or the operations or activities of another
entity in the same group (i.e. a non-market condition); or
b. the price (or value) of the entity's equity instruments or the equity instruments of
another entity in the same group (including shares and share options) (i.e. a
market condition).

Service condition: 'A vesting condition that requires the counterparty to complete a
specified period of service during which services are provided to the entity. If the
counterparty, regardless of the reason, ceases to provide service during the vesting
period, it has failed to satisfy the condition. A service condition does not require a
performance target to be met.’
Immediate vesting
If equity instruments vest immediately, entities should assume (unless there is evidence
to the contrary) that all services have been received. Therefore, on grant date entities
should recognise services received with a corresponding increase in equity (IFRS 2.14).

Non-market vesting conditions

If there are vesting conditions attached, but they are service conditions only, share-
based payment transaction is recognised over time during the vesting period. Service
conditions have no impact on fair value of instruments granted. Instead, they are taken
into account by adjusting the number of equity instruments included in the measurement
of the transaction and this estimate is revised at each reporting date (an entity should
make the best available estimate of the number of equity instruments expected to vest).
In effect, after the vesting period, cumulative expense relates only to those instruments
that actually vested (IFRS 2.19-20).

If the vesting conditions are performance conditions, the approach to recognition

depends on whether these are market or non-market targets. Non-market conditions
(e.g. specified minimum revenue growth of the entity for next 3 years) are treated
similarly to service conditions (see above). The vesting period is sometimes evident, but
there are arrangements where entities need to estimate it based on the performance
target (.e. how long will it take to achieve a target). Such an estimate is then revised
based on actual data. The period of achieving the performance targets cannot end after
the service period specified in the arrangement. If it does, such a performance target is
treated as a non-vesting condition. Similarly to service conditions, cumulative expense
relates only to those instruments that actually vested (IFRS 2.19-20).

For performance targets that are market conditions, see the section below.
Market vesting conditions

Performance targets that are market conditions (e.g. share price of the entity will exceed
$100 by a given year) are taken into account when estimating fair value of equity
instruments granted. Consequently, they are ignored when estimating the number of
equity instruments expected to vest Fair value cannot be subsequently revised if the
fulfilment of market conditions becomes more or less likely. Goods or services are
recognised immediately or during vesting period (if there are other vesting conditions)
irrespective of whether the market condition is eventually met. Therefore, it may happen
that an entity will recognise an expense relating to share-based payments even if there
are no instruments that eventually vested because the market condition was not met
(IFRS 2.21). This approach to market conditions can be counter-intuitive, but it stems
from the 'grant date approach adopted by IFRS 2 under which equity instruments
cannot be remeasured after initial recognition.

Non-vesting conditions
Non-vesting conditions are treated similarly to market vesting conditions, i.e. they are
included in fair value of equity instruments granted and goods or services are
recognised immediately or during vesting period (if there are vesting conditions)
irrespective of whether the non-vesting condition is eventually met (IFRS 2.21A).
Interestingly. IFRS 2 does not give a definition of a non-vesting condition. However, it
can be found in IFRS 2.BC364: non-vesting condition is any condition that does not
determine whether the entity receives the services that entitle the counterparty to
receive cash, other assets or equity instruments of the entity under a share-based
payment arrangement. Examples of non-vesting conditions are: target based on a
commodity index, specified payments towards a savings plan during vesting period,
continuation of the plan by the entity, non-compete clause, transfer restrictions.

Modifications, cancellations and settlements

Modifications, cancellations and settlements are dealt with in paragraphs IFRS 2 26-29.
In general, the cumulative expenses recognised with respect to equity settled share
based payment transactions after modifications, cancellations or settlements cannot be
lower than before those events. In other words, entities can only increase expenses and
this will happen if modifications, cancellations and settlements are beneficial to
employees (or other party). If a modification increases the fair value of equity
instruments granted measured immediately before and after the modification, number of
these instruments, or both (including replacement of old instruments with new ones),
increased expense is recognised during the remaining vesting period in addition to the
original expense. If the modification occurs after the vesting date, additional expense is
recognised immediately.

A change in vesting conditions favourable to employees (or other party) should be

accounted for as a revision to number of instruments that will vest. If the change relates
to market conditions, it should be accounted as a change in fair value of instruments
granted described above. A decrease in fair value of instruments granted (including
replacement of old instruments with new ones) or unfavourable change in vesting
conditions should be ignored and entity should recognise expenses based on conditions
before the modification.
If a grant of equity instruments is cancelled (including decrease in their number) or
settled during the vesting period, it should be accounted as an acceleration of vesting
and immediate recognition of expenses. Any payment made by the entity on the
cancellation or settlement is treated as a deduction from equity, except to the extent that
the payment exceeds the fair value of the equity instruments granted, measured at the
repurchase date-such an excess is recognised as an expense. Similar approach should
be followed for repurchases of vested instruments
If an entity or counterparty can choose whether to meet a non-vesting condition, failure
to meet that non-vesting condition during the vesting period is treated as a cancellation
(IFRS 2.28A).

Modifications of share-based payment arrangements rarely work in one direction

only. Instead, they often are a change in number of equity instruments combined with
offsetting effect of changes in their fair value

Cash-settled share-based payment transactions

Definition of cash-settled share-based payment transactions

Cash-settled share-based payment transactions are transactions in which the entity
receives goods or services by incurring a liability to transfer cash or other assets in
amounts that are based on the price (or value) of equity instruments of the entity or
another group entity (IFRS 2.Appendix A). The most common examples of cash-settled
share-based payment transactions are: SARS (share appreciation rights) and phantom
stocks/options.

Recognition of cash-settled share-based payment transactions

Cash-settled share-based payment transactions are covered in paragraphs IFRS 2.30-
33D. The general criteria for recognition are very similar to equity-settled share-based
payment transactions, but the credit entry goes to liability instead of equity. This liability
is measured at fair value of instruments granted and remeasured at each reporting date.
The expense and corresponding liability is recognised over time during vesting period.
Treatment of vesting conditions is similar to equity-settled share-based payment
transactions, with a notable exception of market vesting conditions, which should be
taken into account when remeasuring the fair value of liability. As a result, the
cumulative amount ultimately recognised for goods or services received for the cash-
settled share based payment is equal to the cash that is eventually paid to employee (or
other party providing goods or services). This is not always the case in equity-settled
share-based payment transactions, e.g. in the case of failure of fulfilment of market
vesting conditions or cancellations.

Fair value of equity instruments granted

IFRS 2 has quite detailed discussion on measurement of the fair value of shares and
share options granted in a share-based payment arrangement. It is contained in
paragraphs IFRS 2 Additionally, paragraphs IFRS 2.24-25 cover instances where fair
value of the equity instruments cannot be estimated reliably. Such cases are rare as
even unquated equities can be fair valued.

Current and deferred tax arising from share-based payment transactions

Current and deferred tax arising from share-based payment transactions are covered in
paragraphs IAS 12.68A-C.

Withholding tax obligations

Paragraphs IFRS 2.33E-H give specific guidance on share-based payment transactions

with a net settlement feature for withholding tax obligations.

Share-based payment transactions with cash alternatives

The counterparty has a choice of settlement

Paragraphs IFRS 2.35-40 cover share-based payment transactions with cash
alternatives in which the terms of the arrangement provide the counterparty with a
choice of settlement. Such transactions are quite common in share-based payment
arrangements with employees. Entities need to recognise separate debt and equity
components in such transactions in accordance with requirements for cash-settled and
equity-settled share based payment transactions, respectively. In transactions with
parties other than employees, where fair value of goods or services is measured
directly, the entity measures the equity component as the difference between the fair
value of the goods or services received and the fair value of the debt component (e.
cash alternative), at the date when the goods or services are received. For transactions
where fair value of goods or services is measured with reference to instruments issued
(most often to employees) antities need to measure fair value of two components. Such
measurement starts with debt component (i.e. cash alternative), then the fair value of
the equity component is measured taking into account that the counterparty will not
receive cash in order to receive the equity instrument.
On settlement, the liability needs to be remeasured so that it equals the payment
amount of the entity issues equity instruments on settlement rather than paying cash,
the remeasured liability is transferred directly to equity. All previously recognised equity
components remain within equity (transfers within equity are allowed).

The entity has a choice of settlement

Paragraphs IFRS 2.41-43 cover share-based payment transactions with cash
alternatives in which the terms of the arrangement provide the reporting entity with a
choice of settlement. For this type of transactions, the entity needs to determine
whether to use general equity-settled or cash-settled basis of IFRS 2. Such a
transaction is accounted for as cash-settled if, for example:

 settlement in equity instruments has no commercial or economic substance,

 settlement in equity instruments is impracticable due to legal or other constraints,
 entity has a past practice or a stated policy of settling in cash whenever it can,
 entity has created a constructive obligation to settle in cash.
In other cases, a transaction is accounted for as equity-settled.
When actual equity instruments are issued, no changes in equity is recognised other
than a transfer within equity if needed. If entity, despite the original choice of approach,
settles in cash, the payment is treated as a deduction of equity. But if the entity, on
settlement, chooses the alternative that has a higher fair value at the settlement date,
the difference between settlement date fair values is recognised as an additional
expense.

Share-based payment transactions among group entities

Share-based payment transactions among group entities are covered in paragraphs
IFRS 2.43A-D and B45-B61. Such arrangements most often involve an (ultimate) parent
and a Subsidiary. The entity that receives goods or services should recognise expenses
relating to them even if the payment or transfer of equity instruments is made by
another group entity. The receiving entity should account for such an arrangement as
cash-settled or equity-settled based on economic substance. In particular, when the
receiving entity has no obligation to settle the share-based payment transaction, such a
transaction is accounted for as equity-settled.
The table below provides a summary of classification of group employee share-based
payment transactions where a subsidiary is the entity receiving services from its
employees: Classification of share-based payment transactions among group entities
under IFRS 2. When the parent settles the share-based payment transaction, the debit
entry in its separate financial statements normally increases the cost of investment in a
given subsidiary. IFRS 2 specifically states (B45-B46) that it does not cover the
treatment of intragroup repayment arrangements. If the repayment is directly linked to
the share based payment arrangement, it is common practice to offset the original
entries, ie to debit the equity by the subsidiary and to credit the investment in subsidiary
by the parent.

Share-based payment arrangements in the context of business combinations

It is often the case that the acquiring company (AC) replaces awards in place at the
target company (TC). IFRS 3 has specific requirements on accounting for such
replacements (IFRS 3.856-862). The fair value of the original awards is split between
consideration transferred and post-acquisition P/L based on percentage of vesting
period completed, whereas this percentage is calculated based on both original and
modified terms (if applicable) and the lower percentage is attributed to consideration
transferred. The difference between the fair value of replacement awards and the
amount attributed to consideration transferred is treated as a post-combination service
expense and accounted for using general IFRS 2 requirements.
IFRS 2 is silent on what to do with the part of share-based payment allocated to
consideration transferred if the assessment about the number of equity instruments that
eventually vest changes as a result of events occurring after the acquisition date. As a
result, all approaches seem acceptable (i.e. do nothing, full recognition in post-
acquisition P/L or adjustment to goodwill during provisional measurement period).
Disclosure
Disclosure requirements are set out in paragraphs IFRS 2.44-52. These include
information on the nature and extent of share-based payment transactions, their effect
on financial statements, as well as fair value disclosures.