Definition
Warrants are bifurcated into two main categories:
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Share Warrant: A security that grants the holder the right to purchase ordinary shares of a company at a specific price, known as the exercise price, before or on a fixed date. These warrants are traded on stock exchanges and offer a speculative investment, often at prices higher than the current market value of the shares. This type of warrant is similar to stock options but does not typically appear on the company’s balance sheet.
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Warehouse Warrant: A document that serves as proof of ownership for goods stored in a public warehouse. These documents can be endorsed and transferred, often used as collateral security for bank loans. Types such as dock warrants or wharfinger’s warrants are specific to warehouses affiliated with wharves.
Examples
Example of a Share Warrant
- ABC Limited issues share warrants: ABC Limited issues warrants allowing investors to purchase its ordinary shares at $50 per share within the next two years. The current market price of ABC Limited’s shares is $45. Investors purchase the warrants hoping the share price rises above $50 within the stipulated period, providing them with a profitable exercise price.
Example of a Warehouse Warrant
- Warehouse Warrant as Loan Collateral: A company stores a large quantity of grain in a public warehouse and receives a warehouse warrant. The company uses this warrant as collateral to secure a bank loan, providing the necessary proof of the grain deposited.
Frequently Asked Questions
1. Are warrants similar to options?
- Yes, both give the holder the right to buy shares at a specific price before a stated expiration date. However, warrants typically have longer durations and are issued by the company itself rather than an exchange.
2. Can warrants be traded independently of the shares?
- Yes, warrants can be bought and sold separately from the underlying shares on the stock exchange.
3. What happens if the exercise price of a warrant is not met before expiration?
- The warrant becomes worthless if the exercise price exceeds the market price at expiration.
4. Are warehouse warrants transferable?
- Yes, warehouse warrants can be transferred by endorsement and are often used as collateral for loans.
Related Terms
- Options: Derivatives that represent a contract sold by one party to another, offering the buyer the right, but not the obligation, to buy or sell a security at an agreed-upon price during a certain period or on a specific date.
- Convertible Debentures: Bonds that can be converted into a fixed number of shares of the issuing company, combining both debt and equity features.
- Call Option: A financial contract giving the buyer the right to purchase an asset at a specified price within a specific time frame.
- Put Option: A financial contract giving the owner the right to sell an asset at a predetermined price within a specific period.
Online References
- Investopedia – Warrants
- The Balance – Understanding Share Warrants
- Corporate Finance Institute – Warehouse Receipts and Warrants
Suggested Books for Further Studies
- “Options, Futures, and Other Derivatives” by John C. Hull
- “Financial Instruments: Equities, Debt, Derivatives, and Marketing” by David M. Weiss
- “Understanding Options” by Michael Sincere
Accounting Basics: “Warrants” Fundamentals Quiz
### What rights do share warrants provide to their holders?
- [x] The right to subscribe to the ordinary shares of a company at a fixed date and price.
- [ ] The obligation to purchase shares at the current market value.
- [ ] The right to sell shares at a fixed date and price.
- [ ] The obligation to sell shares at the current market value.
> **Explanation:** Share warrants provide their holders the right, but not the obligation, to subscribe to the ordinary shares of a company at a fixed date and price.
### How are share warrants similar to stock options?
- [x] Both allow the holder to buy shares at a specific price before a certain date.
- [ ] Both require holders to sell shares at market value.
- [ ] Both mandate periodic payments to the holder.
- [ ] Both are included in the company’s balance sheet.
> **Explanation:** Share warrants and stock options both give holders the right to buy shares at a specific price before an expiration date.
### Can warehouse warrants be used as collateral for loans?
- [x] Yes
- [ ] No
- [ ] Only if endorsed by a bank
- [ ] Only for goods of high value
> **Explanation:** Warehouse warrants can indeed be used as collateral for loans as they serve as proof of ownership for the deposited goods.
### What typically happens to the value of a share warrant if the company's share price remains below the exercise price at expiration?
- [ ] It doubles.
- [ ] It maintains its original value.
- [x] It becomes worthless.
- [ ] It is reissued.
> **Explanation:** If the company's share price remains below the exercise price at expiration, the share warrant becomes worthless since exercising it would result in a loss.
### Are share warrants included on the company's balance sheet?
- [ ] Yes, always
- [x] No, typically not
- [ ] Only if they are close to maturity
- [ ] Only if they are exercised
> **Explanation:** Share warrants are typically not included on the company's balance sheet as they are not considered a obligation until exercised.
### What specific type of warrant is used for warehouses attached to a wharf?
- [ ] Trade warrants
- [x] Dock warrants or Wharfinger’s warrants
- [ ] Gold warrants
- [ ] Lease warrants
> **Explanation:** For warehouses attached to a wharf, dock warrants or wharfinger’s warrants are issued.
### What are share warrants increasingly popular for?
- [ ] They do not expire.
- [ ] They guarantee profits.
- [x] They can be issued without appearing on the balance sheet.
- [ ] They pay dividends to the holder.
> **Explanation:** Share warrants have gained popularity as they can be issued without being reflected on the company’s balance sheet.
### Can share warrants be traded on the stock exchange?
- [x] Yes
- [ ] No
- [ ] Only if authorized by a regulatory body
- [ ] Only in foreign markets
> **Explanation:** Share warrants can be bought and sold on the stock exchange independently of the underlying shares.
### What distinguishes convertible debentures from warrants?
- [ ] Convertible debentures are subordinate to equity shares.
- [x] Convertible debentures are bonds that can be converted into shares, whereas warrants are options to buy shares.
- [ ] Convertible debentures have no expiration date.
- [ ] Warrants are exclusively purchased by company employees.
> **Explanation:** Convertible debentures can be converted into a limited number of shares, whereas warrants grant the right to buy shares.
### What is the primary risk associated with share warrants?
- [ ] They are non-transferable.
- [x] They may become worthless if the exercise price is not met.
- [ ] They always lead to dilution of existing shares.
- [ ] They force holders to purchase shares.
> **Explanation:** The primary risk is that if the exercise price of the share warrant is not reached or exceeded by the market price, the warrant will become worthless at expiration.
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