CFM24200 - Accounting for corporate finance: derivative contracts and IAS

Derivatives and IAS

For details of the implementation schedule for IAS and its relationship with UK GAAP see CFM20010.

Derivatives: definition

IAS 39 defines a derivative as a financial instrument or other contract with all three of the following characteristics:

• its value changes in response to the change in a specified interest rate, financial instrument price, commodity price, foreign exchange rate, index of prices or rates, credit rating or credit index, or other variable (the ‘underlying'). In the case of a non-financial variable, that variable must not be specific to one party to the contract.
• it requires no initial net investment or an initial net investment that is smaller than would be required for other types of contracts that would be expected to have a similar response to changes in market factors, and
• it is settled at a future date.

There are some examples in CFM24210 which illustrate this definition.

The definition covers the kind of instruments normally thought of as derivatives, such as forward contracts (see CFM13140), futures (CFM13160), options (CFM13180), swaps (CFM13230) and interest rate caps, collars and floors (CFM13340).

All derivatives that are within the scope of IAS 39, except ones which are designated and effective hedging instruments, are measured at fair value, with changes in fair value recognised in the income statement (see CFM27000+). Not every contract that falls within the definition of a derivative will be within the scope of IAS 39, however - see CFM24220.

Most derivatives stand alone. But some financial instruments (e.g. a convertible bond held by a company) are hybrid instruments that combine a non-derivative host contract with an embedded derivative. There is more about embedded derivatives at CFM25030.