A non-financial variable specific to a party is an item whose value or performance changes in reaction to non-financial risks or developments that are specific to a party to the contract (hence, do not give rise to a derivative). Non- financial variables specific to a party to the contract include the occurrence or non-occurrence of an event that damages or destroys an asset of a party to the contract (such as, a fire breaking out at the party’s premises).
Furthermore, a change in the fair value of a non-financial asset (broadly, any item that is not a financial instrument) would be specific to the owner of that asset if the fair value reflects not only changes in market prices for such assets (a financial variable) but also the condition of the specific non-financial asset held (a non-financial variable). For example, if a guarantee of the residual value of a specific asset exposes the guarantor to the risk of changes in the asset’s physical condition, the change in that residual value is specific to the owner of the asset.
In a nutshell, a non-financial variable that is specific to the parties to the contract possesses the following characteristics:
- The underlying is not a financial instrument (i.e., it is a non-financial instrument); and
- The fair value of its underlying changes in response to both market prices for the item and the condition of the non-financial instrument held.
