Derivatives and Hedging (Topic 815) and Revenue from Contracts with Customers (Topic 606)

BACKGROUND

In September 2025, the FASB issued ASU 2025-07, introducing targeted amendments to existing guidance on derivatives and share-based payments from customers. The update stems from ongoing stakeholder feedback that highlights complexities and inconsistencies in applying derivative accounting under ASC 815 and share-based payment guidance under ASC 606.

Specifically, stakeholders have faced challenges when contracts contain features linked to the operations or activities of one of the parties, such as research and development funding arrangements, litigation financing agreements, or bonds with interest payments based on environmental, social, and governance (ESG) metrics. These contracts often fell into a grey area of derivative accounting, creating uncertainty and sometimes resulting in reporting that did not fully reflect the underlying economics.

ASU 2025-07 aims to clarify the scope of derivative guidance, reduce operational complexity, and establish a framework that enables financial statements to reflect the economics of these arrangements more accurately. 

Additionally, the ASU addresses practical issues in accounting for share-based payments received from customers, thereby aligning accounting outcomes with the economics of these transactions.

ASU 2025-07 addresses two main issues:

1. Refinements to the scope of derivative accounting under ASC 815, to reduce over-application of derivative accounting to contracts whose underlying are tied to an entity’s operations or non-market metrics. 
2. Clarification of how to account for share-based noncash consideration received from customers in revenue contracts under ASC 606, and when derivative or investment accounting (ASC 815 or ASC 321) should apply.

By providing clearer guidance, the FASB aims to enhance the consistency and decision usefulness of financial reporting, supporting both preparers and users of financial statements in understanding the impact of these contracts on an entity’s financial position and performance.

Key Highlights of Amendment in ASU

Key Changes at a Glance:

a. Derivative Scope Refinements

Main Provision

ASC 815-10-15-59 provides certain scope exceptions from Topic 815 for contracts that are not traded on an exchange. The ASU introduces a new scope exception under ASC 815-10-15-59(e) for contracts whose underlying is based on the operations or activities of one of the parties involved.

Examples of such contracts include those tied to the occurrence or nonoccurrence of specific events, such as:

• Contracts tied to achieving specific financial results, such as reaching USD 10 million in annual sales.
• Contracts linked to ESG goals, like reducing carbon emissions by 20% in a year
• Agreements that require regulatory approvals, such as FDA approval for a new drug
• Product development milestones, for example, completing a prototype by a set date.

Application Guidance or Implementation matters

• The exception may also extend to specific research and development (R&D) funding arrangements (such as funding a startup’s drug research), and litigation financing agreements (such as financing a legal case in return for a share of any settlement).
• Exclusions: What the Scope Exception Does Not Cover

This scope exception does not apply to the following types of contracts:

1. Market-based  underlying: Contracts where the outcome depends on a market rate,market price, or market index do not qualify for scope exception. Example: A contract tied to the S&P 500 index, or the Secured Overnight Financing Rate (SOFR) would not qualify.
2. Financial asset or liability  underlying: Contracts where the outcome depends on the price, performance, or default of a financial asset or liability held by one of the parties do not qualify for scope exception. Example: A contract linked to the interest earned on a bank loan portfolio or whether a borrower defaults on a loan would not qualify.
3. Contracts involving the entity’s own stock: Contracts that involve the company’s own equity and are already covered under specific ASC guidance (ASC 815-10-15-74(a) and Subtopic 815-40) do not qualify for scope exception. Stock options issued to employees would not be covered by this exception.
4. Call or put options on debt instruments: Contracts that give the right to buy or sell debt instruments and are already governed by certain ASC rules (815-15-25-41 through 25-43) do not qualify for the scope exception. Example: A call option to buy a corporate bond at a fixed price would not be included.

These exclusions to scope exceptions help clarify that the exception is focused on contracts tied to specific operational or activity-based events, rather than market-based or financial instrument-based outcomes.

Clarification on “Parties to the Contract”: The Board has clarified in Basis for Conclusion that the term “parties to the contract” is not limited to the legal entity that signs the contract. The exception applies to the activities of the legal entity as well as those of its parent, subsidiaries, and other entities consolidated by the parent. This guidance is relevant for both consolidated financial statements and the standalone statements of individual entities within the consolidated group.

To read more in detail, download PDF.

b. Share-Based Noncash Consideration Clarification 

Main Provision

The amendment in ASU clarifies that when an entity is entitled to receive a share-based payment from a customer in exchange for transferring goods or services, such payment should be accounted for as noncash consideration under ASC 606. Specifically, the ASU establishes that guidance under ASC 815 (Derivatives) or ASC 321 (Investments) does not apply to share-based payments from a customer unless and until the entity’s right to receive or retain the share-based noncash consideration is unconditional in accordance with ASC 606. 

As noted in ASC 606-10-45-4, a right to consideration is considered unconditional if only the passage of time remains before payment is due. In other words, once any performance-related conditions are met, the entity’s right to receive the share-based noncash consideration from the customer becomes unconditional (except for the passage of time), and the entity should then account for it under the relevant GAAP guidance.”

The ASU further clarifies that:

1. The estimated fair value of a share-based payment at contract inception should be included in the transaction price.
2. Subsequent changes in fair value, as determined under other Codification topics, should not be accounted for until the right to consideration is unconditional and should not be included in the transaction price and recognized as revenue.

Application Guidance

Accounting for Share-Based Customer Payments – Timing and Measurement:
Any timing difference between when an entity delivers goods or services and when its right to receive or retain the share-based payment becomes unconditional should be recognized as a contract asset or liability. The share-based payment is initially measured at its estimated fair value at contract inception, consistent with guidance on noncash consideration. Once the right to payment is no longer contingent on the entity’s future performance, it becomes subject to other GAAP guidance (e.g., ASC 321 or ASC 815). At that stage, the entity should apply the relevant guidance for subsequent measures, which may lead to the recognition of an immediate gain or loss.

To read more in detail, download PDF.

Effective date and transition

1. Applicability:

The amendment in ASU is applicable to all entities.

2. Effective Date:

• ASU 2025-07 is effective for fiscal years beginning after December 15, 2026, including interim periods within those years. 
• Early adoption: 
• Early adoption is permitted in any interim or annual period for which financial statements have not yet been issued or made available for issuance. 
• If adopted in an interim period, the guidance must be applied from the beginning of the fiscal year that includes that interim period. 
• Entities that decide to early adopt the amendment in ASU must apply both guidance i.e., guidance on derivatives scope refinements and the guidance on share-based noncash consideration concurrently.

3. Transition Provisions

Transition Methods

Entities may adopt ASU 2025-07 either:

1. Prospectively – applying the guidance to new contracts entered into in annual periods (and interim periods) beginning on or after the adoption date. For share-based noncash consideration, this includes contract modifications treated as separate contracts under ASC 606-10-25-12. Example: Company B enters a new contract in 2026 that includes a feature based on its own operations, which under previous guidance might have been accounted for as a derivative. By adopting ASU 2025-07 prospectively, Company B applies the new scope refinements only to this new contract. Any existing contracts entered before adoption are not affected and continue to follow the prior guidance.
2. Modified Retrospectively – applying the guidance to all affected existing contracts as of the start of the annual period of adoption, with any cumulative effect recognized as an adjustment to opening retained earnings. Example: Company C has an existing contract entered in 2024 with a feature that previously required derivative accounting. By adopting ASU 2025-07 on a modified retrospective basis, Company C reassesses all affected contracts as of the start of 2026. If derivative accounting is no longer required for the existing contract, the company adjusts the opening balance of retained earnings to reflect the cumulative effect, and the contract is accounted for under the revised guidance going forward.

Transition Flexibility

Entities may choose different adoption methods for each part of ASU 2025-07—prospective for derivatives scope refinements and modified retrospective for share-based noncash consideration, or vice versa.

Fair Value Option under Modified Retrospective Transition 

Under the modified retrospective approach, entities have a one-time, instrument-by-instrument option regarding the fair value election:

1. For contracts that no longer qualify for derivative accounting after adoption, an entity can choose to apply the fair value option under ASC 825.
2. For contracts where the fair value option was previously elected for embedded derivatives that would otherwise require bifurcation, an entity can choose to revoke that election if the embedded derivative no longer needs to be separated.

Decisions to elect or revoke the fair value option must be reflected in the opening balance sheet at the start of the year of adoption. For contracts where the fair value option is not applied, the entity will continue to account for them under the applicable US GAAP guidance.

Disclosure requirements

For each transition method, entities must disclose the nature and reason for the change in accounting principle. For modified retrospective adoption, they must also disclose the cumulative effect on retained earnings and identify the financial statement line items affected.

Uniqus Perspective of amendments in ASU

We see this as:

• A win for preparers: Reduced need to apply complex fair value models to internal metrics not reflective of market exposure.
• A win for investors: More decision-useful financial statements that emphasize economics over form.
• Reduce diversity: The diversity in practice resulting from the broad application of the current guidance and changing business environment will be reduced.
• A challenge for transition: Entities will need to carefully assess existing contracts and embedded features to determine whether scope exceptions apply and evaluate the strategic implications of electing the fair value option.

Companies’ Action Points