On June 1, 2017, Home Investor Funds, Ltd., [HIF] purchases a call option for $1,500, which...

On June 1, 2017, Home Investor Funds, Ltd., [HIF] purchases a call option for $1,500, which gives HIF the right to buy 10,000 shares of Delta Plumbers, Inc., for $27 each until December 1, 2017. Delta shares are currently trading for $26. At June 30, 2017, the option contract could be traded in the market at $48,000. At December 1, 2017, with the shares being traded at $35 each, HIF exercised the option and took delivery of the shares of Delta.

Required: Record all necessary entry/entries related to this contract on the following dates:

a] June 1, 2017 when HIF acquired the call option.

b] June 30, 2017, when HIF closes its books of accounts.

c] December 1, 2017 assuming HIF exercised the call option and took delivery of the shares of Delta.

d] December 1, 2017, assuming HIF settles the call option for cash without taking delivery of the Delta shares.

Solutions

Expert Solution

a. June 1, 2017 when HIF acquired the call option.

Premium paid by HIF for buying the call is 1500$

So Journal entry

Date	Particulars	Debit	Credit
June 1, 2017	Call option asset account	1500$
	Bank account		1500$
	Being call option purchased

b. June 30, 2017, when HIF closes its books of accounts

Given that the option contract value on June 30, 2017 is 48000$

So the value of contract increased by 48000-1500=46500$

So Journal entry

Date	Particulars	Debit	Credit
June 30, 2017	Call option asset account	46500$
	Fair value Profit account		46500$
	Being call option Revalued

c. December 1, 2017 the shares are traded at 35$ each

But due to option contract HIF can buy for 27$

so value of the option = (35-27)*10000=8*10000 shares= 80000$

So the value of the option increases by (80000-48000)=32000$

Date	Particulars	Debit	Credit
December 1, 2017	Call option asset account	32000$
	Fair value Profit account		32000$
	Being call option Revalued

December 1, 2017	shares of Delta Plumbers Account	=35*10000=350000$
	Call option asset account		80000$
	Bank A/c		270000$
	being exercised the call option and took delivery of the shares of Delta

d. the call option for cash without taking delivery of the Delta shares.

Date	Particulars	Debit	Credit
December 1, 2017	Call option asset account	32000$
	Fair value Profit account		32000$
	Being call option Revalued

December 1, 2017	Bank A/c	=80000$=(35-27)*10000
	Call option asset account		80000$

	being exercised the call option without taking delivery of the Delta shares

jeff jeffy answered 1 year ago

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