Document ID: chunk:federal_register_of_legislation:F2023C00406:body:0:p46
Version: federal_register_of_legislation:F2023C00406
Segment Type: other
Provision Reference: 
Character Range: 116749–119488

also discusses the effect of settlement options (see (d) below). To simplify the illustration, it is assumed that no dividends are paid on the underlying shares (ie the 'carry return' is zero) so that the present value of the forward price equals the spot price when the fair value of the forward contract is zero. The fair value of the forward has been computed as the difference between the market share price and the present value of the fixed forward price.
Assumptions:
Contract date                                      1 February 20X2
Maturity date                                      31 January 20X3

Market price per share on 1 February 20X2          CU100
Market price per share on 31 December 20X2         CU110
Market price per share on 31 January 20X3          CU106

Fixed forward price to be paid on 31 January 20X3  CU104
Present value of forward price on 1 February 20X2  CU100
Number of shares under forward contract            1,000

Fair value of forward on 1 February 20X2           CU0
Fair value of forward on 31 December 20X2          (CU6,300)
Fair value of forward on 31 January 20X3           (CU2,000)

(a) Cash for cash ('net cash settlement')
IE8 On 1 February 20X2, Entity A enters into a contract with Entity B to pay the fair value of 1,000 of Entity A's own outstanding ordinary shares as of 31 January 20X3 in exchange for CU104,000 in cash (ie CU104 per share) on 31 January 20X3. The contract will be settled net in cash. Entity A records the following journal entries.

1 February 20X2
 No entry is required because the fair value of the derivative is zero and no cash is paid or received.

31 December 20X2
Dr  Loss  CU6,300
    Cr    Forward liability     CU6,300

To record the decrease in the fair value of the forward contract.

31 January 20X3
Dr  Forward liability  CU4,300
    Cr                 Gain        CU4,300

To record the increase in the fair value of the forward contract (ie CU4,300 = CU6,300 – CU2,000).
The contract is settled net in cash. Entity B has an obligation to deliver CU104,000 to Entity A, and Entity A has an obligation to deliver CU106,000 (CU106 × 1,000) to Entity B. Thus, Entity A pays the net amount of CU2,000 to Entity B.

Dr  Forward liability  CU2,000
    Cr                 Cash        C2,000

To record the settlement of the forward contract.

(b) Shares for shares ('net share settlement')
IE9 Assume the same facts as in (a) except that settlement will be made net in shares instead of net in cash. Entity A's journal entries are the same as those shown in (a), except:

31 January 20X3
 The contract is settled net in shares. Entity A has a right to receive CU104,000 (CU104 × 1,000) worth of its shares and an obligation to deliver CU106,000 (CU106