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Hi, Continuing on the previous question. (I dont mean to be bugging you, i am sorry).
You said,
I don’t believe that I’ve ever come across this issue in any F7 (nor P2) exam
I also believe that where we are considering effective rates of interest, we are looking at borrowings in the form of loans where the coupon rate is, say, 6% but the loan has a conversion option and similar loans without that conversion option could be borrowed at, say 8%
But there is no way that you will be faced with this in F7 nor in Financial Reporting (after June 2018)
OK?
Alright, but if in case this happens in the actual world scenarios, how will this be dealt with? Like this is not a rare case right, If assets are capitalized based on effective interest (till the period of completion) then two companies having somewhat similar operations and one company being undervalued because of borrowing at a lower interest rate can happen.
The two companies are very similar in operations , they can be compared and who knows, the the company being undervalued can actually be more attractive than the riskier company. but investors will obviously ignore this undervalued company (in most cases, being practical) and move to the other company as the net asset figures for the other company is better. Both companies were to supposedly to be looked upon as similar but because of this one characteristic there will be a difference of opinion and the company being undervalued will have to face more trouble while raising finance from the public market.
I feel capitalizing the value of the asset based on the effective rate of interest affects comparability between companies…
“I feel capitalizing the value of the asset based on the effective rate of interest affects comparability between companies”
But only because one has borrowed the finance with conversion rights
And those rights will be identified within the notes
And if your investors are smart enough to recognise the possibilities of differences arising as a result of differing effective interest rates and actual interest rates, then those same investors are going to be able to make any mental adjustment that they feel is appropriate
But, on balance, it’s an unlikely scenario even in real life
In addition, not all entities are comparable anyway. Consider our own company Opentuition. Which other entity are you going to compare with us?
We don’t publish study texts nor revision kits
We don’t run day courses
We don’t offer marking schemes
And we don’t charge you any money for any of the services that we do offer
So name me another company against which you can compare us
My point is this … you are never in real life (nor in exams) going to encounter two identical companies in respect of which an investor is going to be considering effective rates of interest and net asset valuations
OK?
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