NCI often contains additional features that can affect the cash flows. For example, common stock may be issued with a put feature, offering the holder a residual interest in the entity along with the option to receive the return specified in the put option. When NCI has additional features, a reporting entity must determine whether the feature is freestanding or embedded in the NCI, as this can impact classification and subsequent measurement, which is further explained in FG 5.3.
In an acquisition, the buyer may provide the NCI holder incremental rights, such as the ability to force the controlling interest to redeem the NCI (i.e., a put option). The reporting entity would need to consider whether the put option is a separate (i.e., freestanding) financial instrument. When applying the guidance in FG 5.3, a reporting entity would often conclude the underlying shares and the incremental feature is a single unit of account (i.e., embedded) because (1) the incremental feature is issued concurrent with the newly created NCI, and (2) the feature cannot be legally detached, and if exercised, would require forfeiture of the outstanding shares.
In contrast, when a put option is issued separate from the shares in the subsidiary, it will often constitute its own distinct unit of account (i.e., freestanding). In such cases, the freestanding put should be separately evaluated in accordance with FG 5.6 to determine how to account for it. If equity classification is appropriate, these freestanding instruments will still be presented as NCI even though they are not outstanding shares. See BCG 6.2.2
Example BCG 6-1 illustrates the analysis of whether a put right should be separately recorded.
EXAMPLE BCG 6-1
Analysis of put right
Parent Company A acquires 80% of the common shares of Subsidiary from Company Z. Company Z retains the remaining common shares (20%) in Subsidiary.
As part of the acquisition, Parent Company A and Company Z enter into an agreement that allows Company Z to put its equity interest in Subsidiary, in its entirety, to Parent Company A at a fixed price on a specified date. The put option is non-transferrable and terminates if Company Z sells its Subsidiary shares to a third party.
Should the put right be separately recorded?
The put option is embedded in the NCI recorded in Parent Company A’s financial statements because it does not meet either of the conditions of a freestanding financial instrument explained in FG 5.3:
- The put option was executed as part of the acquisition; therefore, it was not entered into separate and apart from the transaction that created the NCI.
- The put option is not legally detachable and separately exercisable, as it is non-transferrable and terminates if Company Z sells its shares.