Case Study - Derivatives including Hedging Equity Inc.
Equity Inc. (Equity), a private company, has decided to issue call options. Under the terms of the options, the investors will pay a $10 premium for each option up front and obtain the right to buy 100 shares of Equity for $100 each. Equity has not decided if the shares should have a net settlement feature.
Required:
Why would Equity issue call options?
What is the difference between call options and put options?
What is the difference between written options and purchased options?
What does the term “in the money” mean as it pertains to options?
Why might Equity incorporate a net settlement feature?
How should Equity account for the issuance of these options under US GAAP and IFRS? Provide the corresponding journal entry.