Solution

In this case, Company A Limited has issued warrants entitling the shareholders to purchase equity shares of the Company at a fixed price. Hence, it constitutes a contractual arrangement for issuance of fixed number of shares against fixed amount of cash.

Now, evaluating this contract under definition of derivative:

i)      The value of warrant changes in response to change in value of underlying equity shares;

ii)     This involves no initial net investment

iii)    It shall be settled at a future date.

Hence, this warrant meets the definition of derivative.

The issuance of warrants to existing shareholders by A Limited constitutes a derivative contract. The nature of the contract as an equity instrument or a financial liability depends on the terms and conditions of the contract. If the contract requires A Limited to settle the warrants in its own equity instruments, then it would be classified as an equity instrument. This means that A Limited would need to issue additional equity shares to the warrant holders upon exercise of the warrants. On the other hand, if the contract requires A Limited to settle the warrants in cash or some other financial asset, then it would be classified as a financial liability. This means that A Limited would need to make cash payments or transfer other financial assets to the warrant holders upon exercise of the warrants. In this case, since the warrants entitle the existing shareholders to purchase additional equity shares of A Limited, and the contract is to be settled in A Limited's own equity instruments, the warrants would be classified as an equity instrument.