Variable Prepaid Forward Contracts

Variable Prepaid Forward Contracts

A variable prepaid forward contract a.k.a. a prepaid variable forward contract is a forward equity transaction that enables stockholders to sell shares for future delivery at an agreed discount for cash today. Stock ownership only transfers to the other side of the PVFC at the end of the contract term. The number of shares delivered will vary depending on the share price at contract expiry. Contracts will typically have cap and floor strike prices that will determine how much value is repaid by the equity seller. If at expiry the shares are trading below the floor, the seller transfers the number of shares as stated in the original sale. If the shares are trading within the cap/floor range, the number of shares delivered will be a function of size of the collateralised loan divided by the actual share price. If the share price at expiry is above the PVFC cap, the seller will repay the principal plus additional value (the difference between the cap and the share price multiplied by the number of shares sold). Because of the future delivery nature of the transaction, the seller will not build up a tax liability until contract expiry. In many respects, a PVFC is a collateralised loan, with nominal interest coming in the form of the discounted equity sale price.

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