Wiley GAAP 2008

Induced Conversion of Debt

A special situation exists in which the conversion privileges of convertible debt are modified after issuance. These modifications may take the form of reduced conversion prices or additional consideration paid to the convertible debt holder. The debtor offers these modifications or “sweeteners” to induce prompt conversion of the outstanding debt.

FAS 84 specifies the accounting method used in these situations and only applies when the convertible debt is converted into equity securities. Upon conversion, the debtor must recognize an expense for the excess of the fair value of all the securities and other consideration given over the fair value of the securities specified in the original conversion terms. The reported expense should not be classified as an extraordinary item.

Determining applicability of FAS 84

FAS 84 specifies the accounting for “sweeteners” used to induce the conversion of convertible debt. Traditionally, this involves enhancements offered by the debtor to encourage conversions, often motivated by the desire to bring an end to interest payments on the convertible debt. EITF 02‐15 addresses the related circumstance of conversions when the enhanced terms are proposed or requested by the creditors/debtholders. In some instances, only the requesting parties are granted the sweetened terms. The consensus states that FAS 84 applies to all conversion of convertible debts that (1) occur pursuant to changed conversion privileges, (2) are exercisable ...