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What accounting treatment is required for debt issued with stock warrants and why?

What accounting treatment is required for debt issued with stock warrants and why?

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Answer #1

When debts are issued with stock warrants, both are treated as separate securities.

The proceeds are allocated between the securities based on Fair Market Values.

For this either of the following two methods is used:

  1. Proportional Method
  2. Incremental Method

1. Proportional Method:

In this method, we determine the value of the bonds without the warrants and value of the warrants.

It allocates the proceeds, based on the fair values, the using the proportion of the two amounts.

2. Incremental Method

In some cases, the company is not able to determine the fair values of either or both of the warrants and the bonds.

In such cases, we use incremental method.

It involves two steps:

  • Using the securities for which fair value we can determine
  • And then alocating the remainder of the purchase price to the security for which we could not determine the fair value.
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