An embedded derivative is a provision in a contract that modifies the cash flow of a contract by making it dependent on some underlying measurement. Like traditional derivatives, embedded derivatives can be based on a variety of instruments, from common stock to exchange rates and interest rates.
Embedded derivatives are found in many types of contracts. They are frequently used in leases and insurance contracts. Preferred stock and convertible bonds, or bonds that can be exchanged for stock, also host embedded derivatives. Under standard accounting practices (IFRS and USGAAP), the embedded derivative must be accounted at fair value and that it should only be accounted separately from the host contract if it could stand alone as a traditional derivative.
Our team is skilled in identifying and valuing embedded derivatives on a wide variety of base assets that include exchange-rates, interest rates, inflation, and common traded stocks. This is done in accordance with International Accounting Standards.