Volume 12, No. 9

 

Liabilities Vs. Equity: SFAS No. 150 Tunes Financial Instruments  The more tone-deaf among us can't recognize a trumpet from a trombone, or a snare drum from a base drum. A hearing aid wouldn't do these poor souls a bit of good; they'd only hear the same indistinguishable sounds, only louder. The aural integrity of these musical instruments is wasted on these folks. Certain financial instruments are used by companies to produce the financial statement equivalent of tone-deafness in analysts and investors possessing otherwise keen senses. How? Financial instruments such as mandatorily redeemable stock, agreements to repurchase equity shares, and some obligations to issue a variable number of shares all have one thing in common: they toy with the presentation of liabilities versus equity. Classifying debt instruments as equity just because they wear an equity wrapper puts the balance sheet into an off-key mode. Instead of playing music for investors, the balance sheet sings a siren's call: I'm not reeeeally overextended... FASB Statement No. 150 puts some of these financial instruments into their rightful place on the balance sheet: back into liabilities. It should make a difference in the appearance of some financial statements as early as the second quarter, with broader application expected in the third quarter. Some sour notes might be heard if resulting debt ratios get out of hand.

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