Definition of Financial Assets

Financial assets are liquid resources that do not have inherent physical worth but are valued based on market supply and demand and risk factors. These assets derive their value from contractual rights or ownership claims. For instance, cash, stocks, bonds, mutual funds, and bank deposits are all examples of financial assets.

Unlike physical assets like real estate or machinery, financial assets are intangible and their value can fluctuate significantly based on market conditions. Understanding this nature is essential for making informed investment decisions and for accurate financial reporting.

Types of Financial Assets

Financial assets come in various forms, each with its own characteristics and uses.

Equity Instruments

Equity instruments, such as share certificates and equity stakes, represent ownership in companies. These instruments are valued based on the performance of the underlying company and are traded on stock exchanges. Investors buy these instruments hoping to benefit from dividends or capital appreciation.

Debt Instruments

Debt instruments, including bonds and loans, represent a creditor relationship with the issuer. Bonds, for example, are issued by governments and corporations to raise capital and promise regular interest payments along with the return of principal at maturity. These instruments are valued based on their creditworthiness and interest rates.

Financial Derivatives

Financial derivatives derive their value from an underlying asset or index. Examples include options, futures, and swaps. These instruments are used for hedging risks or speculating on price movements.

Other Financial Assets

Other types of financial assets include receivables (amounts owed to a company), money market holdings (short-term debt securities), and bank deposits. These assets are crucial for liquidity management and short-term financing needs.

Classification of Financial Assets Under IFRS 9

The classification of financial assets under IFRS 9 is based on two key tests: the business model test and the Solely Payments of Principal and Interest (SPPI) test.

Business Model Test

The business model test determines how an entity manages its financial assets. If the business model is to hold assets to collect contractual cash flows, they may be classified differently than those held to sell or for other purposes.

SPPI Test

The SPPI test checks whether the contractual terms of a financial asset give rise to cash flows that are solely payments of principal and interest on the principal amount outstanding. If this criterion is met, the asset can be classified as amortized cost or fair value through other comprehensive income (FVTOCI).

Measurement Categories

IFRS 9 categorizes financial assets into four measurement categories:

• Amortised Cost: Assets held to collect contractual cash flows and meet the SPPI test.

• Fair Value Through Other Comprehensive Income (FVTOCI): Assets held to collect contractual cash flows but do not meet the SPPI test.

• Fair Value Through Other Comprehensive Income with recycling to P/L (FVOCI with recycling): Certain equity instruments that are not held for trading.

• Fair Value Through Profit or Loss (FVTPL): Assets that do not meet any of the above criteria or are designated as such by the entity.

Examples and Real-World Applications

Financial assets are ubiquitous in various sectors. For instance, investment companies like BlackRock Inc. manage vast portfolios of financial assets, including stocks, bonds, and mutual funds. These assets are classified and reported under IFRS 9 based on their business model and SPPI criteria.

Banks also hold significant financial assets such as loans and securities. The classification of these assets under IFRS 9 affects how they are measured and reported in the bank’s financial statements.

Accounting and Reporting Under IFRS 9

The measurement and reporting of financial assets under IFRS 9 depend on their classification. For example:

• Assets measured at amortised cost are reported at their initial recognition amount minus any impairment losses.

• Assets measured at fair value are reported at their current market value, with changes in value reflected either in profit or loss or other comprehensive income.

Accurate classification is crucial because it affects the transparency and reliability of financial statements.

Additional Resources

For deeper understanding, you can refer to the official IFRS 9 standard published by the International Accounting Standards Board (IASB). Additionally, resources such as accounting textbooks, professional courses, and financial reporting guides can provide further insights into the practical application of IFRS 9 in various contexts.