FASB Proposal Would Broaden Equity Classification for Some Stock-Linked Contracts

The Financial Accounting Standards Board’s proposed changes to stock-indexation accounting could make equity classification available to more contracts while reducing the work needed to assess them. The proposal targets Subtopic 815-40, which companies use to determine whether equity-linked contracts, including warrants, are indexed to their own stock and may qualify for equity classification.

That classification can affect how a company reports changes in a contract’s value. Under liability classification, fair-value changes flow through the financial statements; investors told FASB they sometimes exclude those changes from their analyses because they don’t consider them useful to investment decisions. The proposal aims to make the accounting assessment simpler and improve the information investors receive.

One part of the current test would go

Today, the indexation assessment has two steps. A company first considers any contingent exercise provisions. It then assesses the contract’s settlement provisions. Both steps must be satisfied for the contract to be considered indexed to the company’s own stock and potentially classified as equity.

The second step currently includes a “fixed-for-fixed” assessment for freestanding instruments and embedded features. The company evaluates whether the settlement amount equals the difference between the fair value of a fixed number of its equity shares and either a fixed monetary amount or a fixed amount of its own debt.

Potential adjustments can complicate that analysis. If the contract allows the strike price or the number of shares used to calculate settlement to change, those terms aren’t fixed. Under current guidance, the company must then consider whether the variables affecting settlement are inputs to the fair value of a fixed-for-fixed forward or option on equity shares.

FASB’s proposal would remove the fixed-for-fixed assessment. Subject to the first step of the test, a contract would be considered indexed to the company’s own stock if the variables or contingent events that could change its settlement amount relate to a specified set of acceptable factors. The assessment would apply even when the resulting adjustment is large.

Specified factors would guide the assessment

The proposed factors include the company’s stock price, the contract’s term, the company’s expected dividends or other dilutive activities, and stock borrow costs associated with its shares. They also include interest rates, the company’s stock-price volatility, its credit spread, and its own operations or activities.

This approach would shift the analysis toward the source of a possible settlement change. A contract could include adjustments to its strike price or share count and still meet the proposed indexation guidance if the relevant variables fall within the specified factors. The proposal says the changes are also intended to simplify the assessment of leverage factors.

That could reduce the complexity and cost that stakeholders have associated with the current rules. FASB heard during its 2025 agenda consultation that the guidance is a frequent source of financial statement restatements and that companies differ in how they assess certain contract features. Stakeholders also said the existing rules can keep some contracts from qualifying for equity classification even when they should.

FASB expects the amendments to result in more contracts being considered indexed to an entity’s own stock. That could change how some issuers present equity-linked instruments and how investors interpret reported fair-value movements. The effect for any specific contract would depend on its terms and on whether it passes the proposal’s first step as well as the revised settlement assessment.

Annual disclosure would add detail

The proposal would also require companies to disclose annually the variables that could, or did, cause the settlement amount of equity-classified contracts to vary significantly. That disclosure would give investors more information about what can change settlement and, in turn, the reported terms of those contracts.

The added disclosure matters because broader access to equity classification could make the terms and potential variability of qualifying contracts more relevant to readers of financial statements. The proposal’s stated aim is to improve decision-useful information alongside simpler application. Whether the added detail meets that aim will depend on how clearly companies describe the variables and the changes they can produce.

Companies with warrants or other contracts tied to their own shares will need to assess how the proposed criteria relate to their contract terms if the changes proceed. Investors and accounting teams also have a stake in the outcome: the classification can shape reported values, while the disclosures could help explain the conditions behind settlement changes.

FASB is seeking comments on the proposed Accounting Standards Update through Jan. 4, 2027. Feedback can address whether the specified factors and disclosure requirement provide a workable basis for evaluating contracts and understanding their potential effects. The proposal’s practical reach will turn on the final wording and how companies apply it to their instruments.