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Nearly There Case

In: Business and Management

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Nearly There

Economic Characteristics/Accounting Issues

Nearly There designs, develops, manufactures and sells various navigation products and services. They are a public company registered with the SEC and their common stock trades on the stock exchange. The Company is well capitalized with a $100 million market capitalization for its common stock. Due to R&D expenses and slumping sales, Nearly There is in the need of additional capital. The Company's solution was to issue 5 million shares of Series B preferred stock at $1.20 per share. The proceeds received by the company totaled $5.9 million. The important terms of the Series B preferred stock included dividends, voting rights, conversion options, conversion price adjustment, redemption option and a mandatory redemption.

There are two main accounting issues regarding the issuance of Series B preferred stock. The first issue is determining whether the host contract is a debt or equity security. The second issue is determining whether the Company needs to separate the conversion option and/or the redemption option in the Series B Preferred Stock from the host contract and account for them as separate derivative instruments. Another minor accounting issue is if the company was a private company and its common stock was not publicly traded, would it matter how the conversion and the redemption options were accounted for.

i) Is the host contract more akin to a debt or equity instrument for the purpose of analyzing the embedded features in the Series B Preferred Stock?

The host contract has similarities to both debt and equity. As stated in 815-15-25 17A, in order to determine the nature of the host contract, the characteristics of the entire financial instrument need to be taken into account. The individual characteristics need to be assigned weights to help determine whether the entire financial...

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