Memorandum: Share Trading, Options, and AASB 9 for Foxton Ltd

This memorandum, prepared for the Board of Directors of Foxton Ltd, addresses the importance of share trading, particularly focusing on share options (call and put) as financial instruments to manage market risk and potentially generate returns. It explains the mechanics of option contracts, including the rights and obligations of buyers and sellers, and categorizes options based on trading methods and underlying securities. The memorandum differentiates between cash-settled and physically delivered future contracts and discusses the classification and measurement of options under AASB 9 Financial Instruments, including recognition and measurement criteria. The reflection section highlights the challenges in understanding options conceptually and practically, emphasizing the importance of research and expert guidance. The memorandum aims to provide a comprehensive overview of share trading and options to inform the Board's decision on leveraging the Australian share market and protecting company shares.

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Memorandum
Date 25/04/2019
To Board of directors
From Chief Accountant
Subject: importance of the share trading
Introduction
The purpose of this memorandum is to explain the requirements of share options taking
into consideration both the call and the put options.
Options are basically the financial instruments that are primarily used in the developed
countries and the major use of the options are to reduce the unnecessary risk prevailing in the
market. Options are the contracts through which the seller gives the right to the buyer, to buy or
sell the number of defined shares at the pre-determined rate. The right is transferred but the
obligation is not (Krause, 2019).
The basic feature of the option contract is its price or premium that sails with the market
place and it’s not fixed. Generally the long side of the contract pays this premium to the short
side of the contract in case the option contracts are first bought and sold (Dejanovski, 2014).
Further the options can be categorized on the basis of the methods they adapt to trade and on
the basis of the expiration cycle or the underlying security they relate to. The options are
classified as follows.
 Calls

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 Puts
 American style
 European style
 Exchange traded options
 Over the counter options
 Cash settled options
 Exotic options
Option Buyer’s Right Sellers Right Seller’s Obligations
Call options The basic right of the
buyer is to buy the
underlying stocks
form the seller a the
exercisable price on
or before the
stipulated time given
to him
The seller of the
option receives the
option premium paid
by the buyer.
However if the option
holder make sue of
the right, in such a
scenario the
The obligation of the
seller is to sell the
stocks underlying at
the strike price. The
selling needs to be
done before the
stipulated time and
the also on the basis
of the discretion of the
buyer (Henderson,
Peirson, Herbohn &
Howieson, 2015)
Put Options Under the put options
the buyers are
required to sell the
Once the options are
sold the right of seller
is confined to
Under the put options
the obligations of the
seller is to buy the

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existing instruments
of options to the seller
at the exercisable
price and it shall be
sold before the date of
the expiry (Damaraju,
Barney & Makhija,
2015).
receiving of the
premium amount form
the options.
stock options from the
buyer before the date
of the expiry, on the
basis of the discretion
of the buyer.
Future contracts are those types of contracts that are bifurcated as either cash settled or
the physically delivered. There is a huge difference between the future contracts settled as
delivery and future contract settled as cash.
Under the cash settlement the seller of the financial instrument where the assets which are
underlying are not delivered but the net cash position is transferred eventually. For example the
individual who purchase the future contracts of the Sugarcane and if he wishes to settle the
contract in cash then the difference amount will be paid by him. The difference between the spot
price and the pre price decided of the future is to be paid. In such a scenario the physical
ownership is not required to be taken. Mini Hang Seng Index Futures are example of cash settled
(De Marco & Henry-Labordere, 2017).
Physical delivery is the kind of the settlement method where the future contract shall be
purchased before the expiration of the futures contract. The example of the physical delivery is
crude palm oil futures, NYBOT Cotton Futures (Janice Loftus, 2019).

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Classification of options under AASB 9
Under the AASB 9 Financial Instruments, the financial instruments are valued at
amortized cost or fair value. The fair value changes will be accounted in the profit and loss
account or taken into OCI without any chance of recycling (Labuszewski, Newman, Kamradt &
Sturm, 2016).
Recognition criteria of options
Call option are recognized when they are used to speculate on the price changes. If the
price of the underlying asset increase, then the option holder has the opportunity to earn the
profits, on the contrary if the price decreases the holder chooses not to exercise and therefore
they are not recognized. In case of the put options they are recognized when the market price is
declining over the time and the holder of the option has the opportunity to sell the stock at the
higher price (Fargher, Sidhu, Tarca & Van Zyl, 2019).
Measurement requirements for AASB 9 Financial Instruments
With regards to the measurement requirements for option in AASB 9 Financial
instruments states that all the options that are stated below.
Initial measurement and subsequent measurement
The fair value of the financial instrument at initial recognition is basically the transaction
rice and or the considerations received or given. However on the other hand if the consideration
is given in cash than, and then the fair value is measured with the help of the valuation model.
The basic motive to use the evaluation model is to basically determine what the transaction price

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will be on the date of the measurement. The subsequent measure is where the options are
recorded at the fair market value (Hewa, Mala & Chen, 2018).
Reflection
The most challenging and the breakthrough activity while answering the question 1 was
to practically understand the mechanism of the options. Theoretically the words are small, but in
reality they are not easy to operate with. The best thing that I did while responding to the
questions are, I took help form the CA Final books; I also studied the papers prepared by the
research analysts. Moreover, I also looked forwards towards my senior experts while preparing
the assignment. The least thing that I did while answering the question 1 was to go in depth that
would create more pressure with respect to the accounting treatment. Out of all the things that I
have answered the lessons learned were the conceptual analysis of the options, the real difference
between the call and the put options and moreover I also understood the guidelines provided by
the AASB 9. The too much time in researching the material is what I found the real complexity
in understanding how the profit or loss is booked in case of each options.

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References
Damaraju, N. L., Barney, J. B., & Makhija, A. K. (2015). Real options in divestment
alternatives. Strategic Management Journal, 36(5), 728-744.
De Marco, S., & Henry-Labordere, P. (2017). Local volatility from american options. Available
at SSRN 2870285.
Dejanovski., A. (2014). The Role and Importance of the Options as a Unstandardized Financial
Derivatives. Retrieved from
http://www.temjournal.com/documents/vol3no1/TemJournalFebruary2014_81_87.pdf
Fargher, N., Sidhu, B. K., Tarca, A., & Van Zyl, W. (2019). Accounting for financial instruments
with characteristics of debt and equity: finding a way forward. Accounting &
Finance, 59(1), 7-58.
Henderson, S., Peirson, G., Herbohn, K., & Howieson, B. (2015). Issues in financial accounting.
Pearson Higher Education AU.
Hewa, S. I., Mala, R., & Chen, J. (2018). IASB's independence in the due process: an
examination of interest groups’ influence on the development of IFRS 9. Accounting &
Finance.
Janice Loftus, Ken J. Leo, Sorin Daniliuc, Noel Boys, Belinda Luke, Hong Nee Ang, (2019).
Financial Reporting 2nd Edition, United States: John Wiley & Sons.
Krause, T. A. (2019). Put-Call Parity in Equity Options Markets: Recent Evidence. Theoretical
Economics Letters, 9(4).

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Labuszewski, J., Newman, A., Kamradt, M., & Sturm, F. (2016). U.S. Patent Application No.
14/482,814.