Single liability, bifurcated derivative, or substantial premium? Walk the ASC 815-15 / 815-40 decision tree exactly as your auditor will — host analysis, scope exception, indexation steps, settlement conditions, premium check — in your browser.
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Guide: an equity-conversion feature carries equity-price risk; a debt host carries interest-rate/credit risk — they are NOT clearly and closely related.
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ASU 2020-06 simplified convertible debt accounting — and created a new failure mode. With the beneficial-conversion-feature and cash-conversion models gone, most convertible notes are now a single liability measured at amortized cost, and teams have learned to expect that answer. But the two remaining exceptions carry real consequences, and small-cap financing terms trip them constantly.
The first exception is bifurcation. Under ASC 815-15-25-1, an embedded conversion feature is separated as a derivative when it is not clearly and closely related to the debt host, the hybrid is not already at fair value through income, the feature would be a derivative on its own, and no scope exception applies. The exception that usually decides the outcome is ASC 815-10-15-74(a): a contract both indexed to the issuer's own stock (the two-step ASC 815-40-15 analysis) and classifiable in stockholders' equity (the ASC 815-40-25 settlement conditions) escapes derivative treatment. Step 1 screens exercise contingencies tied to unrelated markets or indexes; Step 2 is the fixed-for-fixed test. A conversion price set as a discount to a future VWAP or lowest trading price fails Step 2 — the classic "death spiral" note — and the feature becomes a derivative liability remeasured through earnings every quarter, a volatility machine sitting in the P&L.
The second exception is the substantial premium model (ASC 470-20-25-13): a note issued at a substantial premium over principal records the premium in additional paid-in capital, with roughly 10% serving as the undefined-but-customary threshold.
This classifier walks your note's actual terms through the same decision tree your auditor will apply — host analysis, scope exception, indexation steps, settlement conditions, premium check — and explains each branch with the governing paragraph. It runs entirely in your browser; deal terms are never uploaded unless you save them.
The default is a single liability at amortized cost. ASU 2020-06 eliminated the beneficial-conversion-feature and cash-conversion separation models, so separation now happens only when the embedded conversion feature must be bifurcated under ASC 815-15-25-1 or the substantial-premium model of ASC 470-20-25-13 applies.
Under ASC 815-15-25-1, when all conditions are met: the feature is not clearly and closely related to the debt host, the hybrid isn't measured at fair value through income, the feature would be a derivative standing alone, and no scope exception applies — most importantly the ASC 815-10-15-74(a) own-equity exception.
Step 2 of the ASC 815-40-15 indexation analysis (815-40-15-7C): the settlement amount must equal the difference between the fair value of a fixed number of shares and a fixed monetary amount. Adjustments are permitted only if they are inputs to the fair value of a fixed-for-fixed option.
A conversion price tied to a future stock price — for example 80% of the lowest VWAP over some window — fails the fixed-for-fixed test. The conversion feature is bifurcated and carried as a derivative liability at fair value, with changes running through earnings every quarter.
Under ASC 470-20-25-13, when a convertible note is issued at a substantial premium to its principal amount, the premium is presumed attributable to the conversion feature and is recorded in additional paid-in capital. "Substantial" is not defined; roughly 10% is the common rule of thumb.