Accounting For Derivatives and Hedging Activities: Answers To Questions

Chapter 13
Accounting for Derivatives and Hedging Activities
Answers to Questions
1 In order for the hedge items to qualify for hedge accounting, management must demonstrate that the
derivative is considered highly effective in mitigating the identified risks. This can be done by using two
different approaches:
a. Critical term analysis. Analyzing using critical terms, such as the nature of the underlying
variable, the notional amount of the derivative and the hedged item, the delivery date
derivative and settlement date of the hedged item. If the derivative and the hedged items
are identical, the derivative is considered highly effective.
b. Statistical analysis. If the critical term analysis does not match, then a correlation or
regression analysis can be used to show the relationship between the derivative and hedged
item. If they are statistically significant then the derivative is considered highly effective.
2 Under the fair value hedge accounting, the gains and losses are immediately recognized in earnings while
under the cash flow hedge accounting, the gains and losses are to be deferred until the forecasted
transactions affected income.
3 Foreign currency commitment is a contract or agreement denominated in foreign currency that will result
in a foreign currency transaction at a later date. For example, a US firm contract to buy assets at future
date from a Singaporean firm that is using Singaporean dollars. The situation is special because the
underlying transaction being hedged is not recorded as assets or liabilities.
4 Under a firm purchase or sales commitment, if the hedge is considered to be effective, then it would
qualify as a fair value hedge. The item being hedged (regardless of whether it is an asset or liability
position) and the offsetting derivative are both marked to fair value at the financial statement date. If
the hedge relationship is not considered to be effective, then the derivative is marked to market at the
balance sheet date, regardless of when the gain or loss on the item that is being hedged is recognized.
No offsetting changes in the fair value of the item being hedged are recorded until they are realized.
5 A company that has an existing loan that involves a variable or floating interest rate enters into a pay-
fixed, receive variable swap. The company is swapping its variable interest rate payments for fixed ones.
These contracts are typically settled net. For example, if the fixed rate agreed upon is 10% for the term
of the swap agreement and in one year the variable rate is 9%, then the company with the variable rate
loan must pay the difference in rates multiplied by the notional amount of the loan to the other party. If
the variable rate is 12%, then the company will receive the difference in rates multiplied by the notional
amount of the loan. Regardless of the movement in interest rates over the term of the swap, the company
will pay the fixed rate, net. This type of swap is aimed at reducing the variability in cash flows related to
the debt; therefore it is designated as a cash flow hedge.
6 A receive fixed, pay variable swap is entered into if a company has an existing loan that involves a fixed
interest rate and desires to swap those fixed payments for variable payments. For example, a company
has a loan with an 8% fixed rate and enters into a swap arrangement so that it will pay LIBOR + 1%. If
the variable rate for a year is 9%, then the company will pay 1% multiplied by the notional amount as
well as the 8% for the loan. Thus, the company has paid 9%, the floating rate.
If the variable rate is 6% (5% LIBOR + 1%), then the company will pay 8% on the loan, but will receive
2% related to the swap. Thus, the company will pay 6%, the floating rate.
Copyright © 2015 Pearson Education Limited

13-2 Accounting for Derivatives and Hedging Activities
This type of swap is aimed at reducing the variability in the fair value of the underlying loan therefore it
is designated as a fair value hedge.
7 Fair value hedge accounting is used when the company is attempting to reduce the price risk of an
existing asset/liability or firm purchase/sale commitment. Cash flow hedge accounting is appropriate
when the company is attempting to reduce the variability in cash flows thus it is appropriate when
hedging anticipated purchases and sales.
Under certain circumstances, hedges of existing foreign currency denominated receivables and payables
are accounted for as cash flow hedges instead of fair value hedges. See question 8’s solution for these
cases.
8 Cash flow hedge accounting can be used when hedging recognized foreign-currency denominated assets
and liabilities if the variability of cash flows is completely eliminated by the hedge. This criterion is
generally met if all of the critical terms of the hedged item and the hedge match such as the settlement
date, currency type and currency amounts. If these don’t match, then it must be accounted for as a fair
value hedge.
The key difference between this situation and the more general cash flow hedge case is that an existing
asset or liability is being accounted for here. Under the more general case, the recognition of gains and
losses is deferred because an anticipated transaction is being hedged. The foreign currency asset or
liability is marked to fair value at year-end and the resulting gain or loss account is recognized, however,
the gain or loss is offset by reclassifying an equal amount from other comprehensive income. Thus, the
asset and liability are marked to fair value, but no gain or loss related to that adjustment is included in
current period income.
The premium or discount related to the hedge contract is amortized to income over the length of the
contract using the effective interest method. For example, if a 100,000 euro foreign currency receivable
due in 60 days is recorded at the spot rate of $1.20/euro or $120,000 and at the same date, a forward
contract is entered into to deliver 100,000 euros in 60 days at a forward rate of $1.18, the company knows
that it will lose $2,000. This $2,000 must be amortized to income over the 60 day period.
9 International Accounting Standards No. 32 and 39 prescribe the accounting for derivatives. Their
requirements are similar to SFAS No. 133 and 138 in terms of determining when hedge accounting can
be used. The requirements for determining hedge effectiveness are very similar. Both fair value and
cash flow hedge definitions and general requirements are similar. However, under IAS 39, firm sale or
purchase commitments can be accounted for as either fair value or cash flow hedges which differs from
the FASB requirement that they must be accounted for as fair value hedges.
10 A forward contract of an anticipated foreign currency transaction is accounted for as a cash flow hedge.
The contract is marked to fair value at each financial date and the corresponding gain or loss is included
in other comprehensive income. Any premium or discount must be amortized to income over the
contract term using an effective interest rate method. The gain (loss) credit (debit) is offset by a debit
(credit) from other comprehensive income.
When the anticipated transaction occurs and the forward contract is settled, the resulting other
comprehensive income balance is amortized to income in the same period as the underlying transaction is
recognized in income.

Chapter 13 13-3
SOLUTIONS TO EXERCISES
Solution E13-1
1 a. December 1, 2011 No entry is necessary
b. December 31, 2011

Other Comprehensive Income (-OCI,-SE) 9,901
Forward Contract (+L) 9,901
Forward contract value at 12/31/11($1,000 - $980) x 500 = $10,000/
(1.005)2 = $9,901 liability
c. Settlement date February 28, 2012

Forward Contract (-L) 9,901
Forward Contract (+A) 2,500
Other Comprehensive Income (+OCI,+SE) 12,401
Forward contract value at 2/28/12($1,000 - $1,005) x 500 = $2,500
asset. The forward contract liability at 12/31/11 is eliminated
and the asset established. Accordingly, the corresponding credit
to other comprehensive income, $12,401, will result in an ending
balance of $2,500 credit in other comprehensive income.
Rice Inventory (+A)($1,005 x 500) 502,500

Cash (-A) 502,500
To record the rice purchase at market price
Cash (+A) 2,500

Forward Contract (-A) 2,500
To record the forward contract settlement
2 Settlement date June 1, 2012
Cash (+A) 600,000

Sales (+R) 600,000
Cost of Goods Sold (+E) 500,000

Rice Inventory (-A) 502,500

Solution E13-2
1 a. December 1, 2011
No entry is necessary

Loss on forward contract (+Lo,-SE) 9,901
Forward contract value at 12/31/11($1,000 - $980) x 500 = $10,000/
(1.005)2 = $9,901 liability
Firm Purchase Commitment (+A) 9,901

Gain on firm purchase commitment 9,901
(+Ga, +SE)
c. Settlement date February 28, 2012

Forward Contract (+A) 2,500
Gain on forward contract (+G,+SE) 12,401
Forward contract value at 2/28/12($1,000 - $1,005) x 500 = $2,500
asset.
Loss on firm purchase commitment (+Lo,-SE) 12,401

Firm purchase commitment (-A) 9,901
Firm purchase commitment (+L) 2,500
Rice Inventory (+A) 500,000

Firm purchase commitment (-L) 2,500
Cash (-A) 502,500
To record the rice purchase at market price
Cash (+A) 2,500

To record the forward contract settlement
2.
Cash (+A) 600,000
Sales (+R,+SE) 600,000
Cost of Goods Sold (+E,-SE) 500,000

Rice Inventory (-A) 500,000

Chapter 13 13-5
Solution E13-3
1 November 1, 2011 Memorandum entry only
December 31, 2011

2 Forward Contract (+A) 49,751
Unrealized Gain on Forward Contract 49,751
(+Ga, +SE)
(100,000 x .50)/1.005
To record the change in fair value of the
forward contract attributable to the discounted
change in the forward price
Unrealized Loss on Firm Sales Commitment (+Lo, 49,751

-SE)
Firm Sales Commitment (+L) 49,751
To record the change in fair value of the firm
commitment
January 31, 2012

3 Unrealized Loss on Forward Contract (+Lo,-SE) 149,751
($6-$5= 1.00 x 100,000)
(To record the change in fair value of the
Firm Sales Commitment (+A) 100,000

Firm Sales Commitment (-L) 49,751
Unrealized Gain on Firm Sales Commitment 149,751
(+G,+SE)
(To record the change in fair value of the firm
commitment to sell)

Cash 100,000
To record the settlement of the forward
contract.
Cash 600,000
Sales 600,000
To record cash sales.
Sales 100,000
Firm Sales Commitment (-A) 100,000
To record termination of firm sales commitment.

Solution E13-4
October 1, 2011
1 Forward contract(+A) 49,012
Gain on forward contract 49,012
(100,000 x ($2.00 - $1.50))/(1.005)4
Inventory (+A) 50,000

Gain on inventory (+SE) 50,000
To record inventory gain because the
December 31, 2011

2 Loss on forward contract 98,763
Forward contract(-A) 49,012
Forward contract(+L) 49,751
(100,000 x ($2.00 - $2.50))/(1.005)= 49,751
The inventory will not be marked to market

because the market value ($1.50) does not equal
the cost ($1.00) when the derivative is signed
on October 1, 2011.
January 31, 2012

3 Forward contract(-L) 49,751
Cash 30,000
Gain on forward contract 19,751
To record settlement of forward contract.

Chapter 13 13-7
Solution E13-5
Preliminary calculations
Value at spot rate $ 64,000
Hedge contract $ 62,500
Discount $ 1,500
1 Implicit rate of return (use formula)

n = 90 days = 3 months
$64,000 (1 + i )n = $62,500
$64,000 ( 1 + i )3 = $62,500
( 1 + i )3 = 0.976563
3
√(1 + i )3 = 3
√0.976563
1 + i = 0.992126
i = -0.00787
-0.7874 % per month
2 Discount Balance
-0.79% $ 64,000
30-Nov $ (504) $ 63,496
30-Dec $ (500) $ 62,996
30-Jan $ (496) $ 62,500
Total discount
amortization $(1,500)
Total amortization needs adjustment on December 31,

2014 $1,003.90
Solution E13-6
September 1, 2014
Accounts receivable (fc) (+A) 15,400
Sales (+R, +SE) 15,400
To record sales to Dimple AG; (€20,000  $0.77 spot rate)
Contract receivable (+A) 15,000

Contract payable (fc) (+L) 15,000
To record forward contract to deliver €20,000 in 30 days. Receivable: €20,000
 $0.75 forward rate.
October 1, 2014
Cash (fc) (+A) 15,800
Exchange gain (+Ga, +SE) 400
Accounts receivable (fc) (-A) 15,400
To record collection of receivable from Dimple AG. Cash: €20,000  $0.79.
Exchange gain: [€20,000  ($0.79 - $0.77)]

Contract payable (fc) (-L) 15,000

Exchange loss (+Lo, -SE) 800
Cash (fc) (+A) 15,800
To record delivery of €20,000 from Dimple AG to foreign exchange broker in
settlement of liability and recognize exchange loss [€20,000  ($0.79 -
$0.75)]
Cash (+A) 15,000

Contract receivable (-A) 15,000
To record receipt of cash from exchange broker.

Chapter 13 13-9
Solution E13-7
Forward Forward Present

Date Contract Contract Rate Difference  2,000,000 Factor Value of
Rate at This Date Data Below
31-
Dec 0.0095 0.0098 0.0003 600 1.01 594.06
2
Spot rate - January 30, 2015 $ 0.0120
90-day forward rate - November
1, 2014 $ 0.0095
Difference $ 0.0025
$
Merchandise price 2,000,000
Contract loss in January 30,
2015 $ 5,000
SOLUTIONS TO PROBLEMS
Solution P13-1
Preliminary computations
90-day rate 0.75

30-day rate 0.79
Difference -0.04
Hedged amount € 250,000
Estimated loss -10000
Factor 1.01 1
Present value of
loss $ (9,901) a
Inventory
(+A) $ 195,000
Account payable (fc)(+L) $ 195,000
To record the purchase of merchandise from Queen NV

[spot rate x €250,000]
Accounts payable (fc)(-

L) $ 5,000
Exchange gains (+Ga, +SE) $ 5,000

To adjust accounts payable to year end rate

[(0.80-0.78) x €250,000]
Other comprehensive income (-SE) $ 9,901 a
Forward contract (+L) $ 9,901
To record fair value of forward contract on December 31, 2014
Using the implicit rate of return formula, we calculate the amortization rate
at -1.30%
Discount amortization:
1-Nov $ 195,000
30-Nov $ (2,535) b
$ 192,465
31-Dec $ (2,502) b
$ 189,963
30-Jan $ (2,470) $ 187,500
Exchange loss (+Lo,-SE) $ 5,000

Other comoprehensive income
(+SE) $ 5,000
To offset previously recognized
exchange
gains against forward
contract loss
Exchange loss
(+Lo, -SE) $ 5,037 b
Other comprehensive income

(+SE) $ 5,037
To adjust other comprehensive income with amortization of
discount at year end
Forward contract value at

settlement date $ 17,500
( spot rate - forward contract
rate)
Forward contract value at year end $ 9,901
Forward contract loss $ 7,599 c
Accounts payable
(fc)(-L) $ 190,000
Exchange loss(+Lo,-
SE) $ 15,000

Chapter 13 13-11
Cash (-A) $ 205,000
To record the payment of accounts payable at spot rate

(-SE) $ 7,599 c
Forward contract (+L) $ 7,599

To record the forward
contract loss

(-SE) $ 15,000
Exchange gain (+Ga, +SE) $ 15,000
To offset the exchange loss
at
settlement date
Forward contract (-
L) $ 17,500
Cash (-A) $ 17,500
To record the payment of the forward contract
Exchange loss (+Lo,

-SE) $ 2,470
Other comprehensive income (+SE) $ 2,470
To record amortization of the remaining discount
Solution P13-2
October 1, 2014
Accounts receivable (fc) (+A) 24,000,000
Sales (+R, +SE) 24,000,000
To record sales to Jang Ltd. (₩25,000,000,000  $0.00096 spot rate).
Contract receivable (+A) 23,500,000

Contract payable (fc) (+L) 23,500,000
To record forward contract to deliver ₩25,000,000,000 in 120 days. Receivable:
₩25,000,000,000  0.00094 forward rate.
December 31, 2014

Exchange loss (+Lo, - SE) 500,000
Accounts receivable (fc) (-A) 500,000
To adjust accounts receivable to year-end spot exchange rate. [₩25,000,000,000
 ($0.00094 - $0.00096) = $500,000]
Contract payable (fc) (-L) 247,525
Exchange gain (+Ga, +SE) 247,525

To adjust contract payable to exchange broker to the year-end forward exchange
rate. Payable: [₩25,000,000,000  ($0.00094 - $0.00093)/(1.01)]
January 30, 2015

Cash (fc) (+A) 23,000,0000
Exchange loss (+Lo, -SE) 500,000
Accounts receivable (-A) 23,500,000
To record collection of receivable from Jang Ltd. Cash: ₩25,000,000,000 
$0.00092.
Contract payable (fc) (-L) 23,252,475
Exchange gain (+Ga, +SE) 252,475
Cash (fc) (-A) 23,000,000
To record delivery of ₩25,000,000,000 from Jang Ltd. to foreign exchange
broker in settlement of liability.
Cash (+A) 23,500,000
Contract receivables (-A) 23,500,000

Chapter 13 13-13
Solution P13-3
1 The purpose of this hedge is to reduce variability in cash flows in the

future since the firm entered into a variable interest loan and is
swapping that for a fixed interest rate. This is therefore a cash flow
hedge.
2 One would expect that this is a highly effective hedge if the notional
amount, $400,000 and the length of the term of the swap agreement agree.
3 a. The LIBOR rate at 12/31/11 is 5%, thus 2012’s interest rate on the
variable loan will be 5% + 2% = 7%. The swap fixed rate is 8%. Cam
will pay .01 percent more than the variable rate. The fair value of the
swap is the present value of the estimated future net payments.
Date of payment Estimated payment Factor Present Value

based on 12/31/11
LIBOR rate
12/31/12 .01 x $400,000 1/(1.07) $ 3,738
12/31/13 .01 x $400,000 1/(1.07)2 3,493
12/31/14 .01 x $400,000 1/(1.07)3 3,265
12/31/15 .01 x $400,000 1/(1.07)4 3,051
Total $13,547
b.
December 31, 2011
Interest Rate Swap (+L) 13,547
To record the fair value of interest rate swap, cash flow hedge at
12/31/11.
Interest Expense (+E,-SE) 32,000

Cash (-A) 32,000
To record interest payment.
4.
December 31, 2012
Cash (-A) 28,000
To record payment to Ven Bank of the interest expense for the year
under the variable rate loan. The rate set on the loan at 1/1/12
was 7%.

Cash (-A) 4,000
To record the payment due on the interest rate swap because the
fixed rate is 8%. This represents the net settlement amount.
Interest rate swap (-L) 8,346

Other Comprehensive Income (-OCI,+SE) 8,346
To record the change in fair value of the interest rate swap.

P13-3 (continued)
The new variable rate for 2013 which is set at 12/31/12 is 5.5% +
2%. As a result, the estimated amount that Cam would pay is
reduced from 1% to .5%.

based on 12/31/12
LIBOR rate
12/31/13 .005 x $400,000 1/(1.075) $ 1,860
12/31/14 .005 x $400,000 1/(1.075)2 1,731
12/31/15 .005 x $400,000 1/(1.075)3 1,610
Total $ 5,201
The unadjusted Interest Rate Swap liability is $13,547 credit, but the
adjusted is $5,201 credit. The Interest Rate Swap Liability must be
reduced by $8,346.

Chapter 13 13-15
Solution P13-4
1. This is a fair value hedge because the fixed rate loan’s fair value
fluctuates over time as market interest rates change. By entering into
this swap agreement that fluctuation is eliminated. So while the
interest rate fluctuates, the loan’s fair value remains constant,
reflecting the fixed rate in the swap.
2. Like P13-3, the terms match, thus this is considered to be a highly

effective hedge.
3. a.
based on 12/31/11
LIBOR rate
12/31/12 .01 x $400,000 1/(1.09) $ 3,670
12/31/13 .01 x $400,000 1/(1.09)2 3,367
12/31/14 .01 x $400,000 1/(1.09)3 3,089
12/31/15 .01 x $400,000 1/(1.09)4 2,834
Total $12,960

Cash (-A) 32,000
To record interest due on fixed rate loan at 12/31/11
Loan Payable (-L) 12,960

Interest Rate Swap (+L) 12,960
To record the interest rate swap at fair value, computations above.
Notice that the carrying value of the loan is now $387,040 ($400,000 -
$12,960). This agrees with the present value of the loan at the market
rate of 9%.
Proof: $400,000/(1.09)4 = $283,370 <= the present value of the maturity
value. The present value of the interest payments is $32,000 x
PVIFA(i=9,n=4)= $103,670.
The total market value of the loan is $283,370 + $103,670 = $387,040.

Solution P13-4 (continued)
4.
based on 12/31/12
LIBOR rate
12/31/13 .005 x $400,000 1/(1.085) $1,843
12/31/14 .005 x $400,000 1/(1.085)2 1,699
12/31/15 .005 x $400,000 1/(1.085)3 1,566
Total $ 5,108
December 31, 2012

Cash (-A) 32,000
To record interest due on fixed rate mortgage

Cash (-A) 4,000
To record swap payment
Interest Rate Swap (-L) 7,852

Loan Payable (+L) 7,852
To adjust interest rate swap to fair value, $5,108.
Notice that now the loan payable carrying value is:

$400,000 – 12,960 + 7,852 = $394,892. This amount agrees with the
present value of the loan at the market rate on this date, 8.5%.
Proof: $400,000/(1.085)3 = $313,163—Present value of the maturity value
of the loan.
The present value of the interest payments = $32,000 x PVIFA(i=8.5,n=3)=
$81,729.
The present value of the loan at a market rate of 8.5% is therefore
$313,163 + $81,729 = $394,892.

Chapter 13 13-17
Solution P13-5
1 Entries on April 1
Accounts receivable (pesos) (+A) 33,060
Sales (+R,+SE) 33,060
To record sales on account denominated in pesos: 200,000 pesos /
6.0496 LCUs
Contract Receivable 33,228
Contract Payable 33,228
To record forward contract.
2 Entries on May 31
Cash (pesos) (+A) 33,378
Accounts receivable (pesos) (-A) 33,060
Exchange gain (+G,+SE) 318
To record collection of receivable in LCUs: 200,000 LCUs /
5.992 LCUs
Contract payable 33,228

Exchange loss 150
Cash 33,378
To record delivery of 200,000 pesos to
the exchange broker.
Cash 33,228
Contract receivable 33,228
To record receipt of cash from exchange
broker.

Solution P13-6
1 Entry on October 2, 2011

Contract receivable (euros) (+A) 31,750
Contract payable (+L) 31,750
To record forward contract to purchase 50,000 euros at $.6350 as a
hedge of a firm commitment.
2 December 31, 2011 adjustment

Contract receivable (euros) (+A) 350
To adjust the contract receivable for 50,000 euros to the $.6420
future exchange rate at December 31, 2011: 50,000 euros  ($.6420
- $.6350).
Exchange loss (+Lo,-SE) 350

Change in value of firm commitment 350
To record the change in the value of the underlying firm
commitment hedged.
3 Entries on March 31, 2012

Contract payable (+L) 31,750
Cash (-A) 31,750
To pay exchange broker for 50,000 euros at the forward rate of
$.6350 established on October 2, 2011.
Cash (euros) (+A) 32,800

Contract receivable (euros) (-A) 32,100
To record receipt of 50,000 euros from exchange broker when spot
rate is $.6560.
Exchange Loss (+Lo,-SE) 700

Change in value of firm commitment 700
To record the change in the value of the underlying firm
commitment hedged.
Inventory 32,800
Cash (euros) (+A) 32,800
To record purchase and payment in euros at $.6560 spot rate.
Change in value of firm commitment (-OCI,-SE) 1,050

Inventory 1,050
To record the adjustment of inventory for the change in the value
of the firm commitment. This effectively fixes the purchase at the
original forward rate.

Chapter 13 13-19
Solution P13-7
We will assume that the hedge contract is to be settled net.
December 2, 2011
No entry
December 31, 2011

Other comprehensive income: exchange loss
(-OCI, -SE) 4,950
Forward contract (+L) 4,950
Forward contract, 12/31/11, $1.69 – contract rate $1.68 = $.01 x
500,000 = $5,000. This is to be paid in two months so the present
value assuming 6% annual interest rate is: $5,000/(1.005)2 =
$4,950.
Exchange Loss (+Lo,-SE) 3,346

Other comprehensive income (+OCI,+SE) 3,346
To record discount amortization. See table below
March 1, 2012
Cash (fc) (+A) 855,000
Sales (+R,+SE) 855,000
To record delivery of equipment to Ram and collection of 500,000
pounds at the $1.71 spot rate.
Other comprehensive income: exchange loss (+Lo, 10,050

-SE)
To increase the forward contract to the final liability amount:
$1.71-$1.68 = $.03 x 500,000 = $15,000 - $4,950 = $10,050
adjustment.

To record discount amortization. (See table below)
Forward contract (-L) 15,000

Cash (–A) 15,000
To record forward contract payment.
Sales (-R,-SE) 5,000


Solution P13-7 (continued)
Discount amortization:
The spot rate at the date the forward contract was entered into $1.70 x
500,000 = $850,000. $1.68 x 500,000 = $840,000. The discount of $10,000
must be amortized over the contract period. The effective interest rate
equates these two amounts using a 3 month time period, that rate is .
3937%.
Date Discount amortization Balance

$ 850,000
December 31, 2011 $ 3,346 846,654
January 31, 2012 3,333 843,320
March 1, 2012 3,320 840,000

Chapter 13 13-21
Solution P13-8
1 December 16, 2011

Equipment (+A) 668,000
Accounts payable (fc) (+L) 668,000
To record purchase of equipment (400,000 pounds  $1.67).
2 December 31, 2011

Accounts payable (fc) (-L) 8,000
Exchange gain (+G,+SE) 8,000
To adjust accounts payable for currency exchange rate change:
400,000 pounds  ($1.67 - $1.65).

To record the forward contract loss at 12/31/11
Exchange loss (+Lo,-SE) 8,000

To reclassify an amount from Other Comprehensive Income to offset
the gain on the accounts payable

To amortize the premium. The premium is the difference between
the $668,000 spot price for pounds at the date the contract was
entered into and $672,000, the contracted amount. This difference
must be amortized to income over the 30 day period. The effective
interest rate is computed as follows:
$672,000 = $668,000 x (1+r)30, solving for r (the daily interest
rate) = .0199025%. $668,000 x .000199025 x 15= $1,994.
December 31, 2011 account balances:

Accounts Payable $660,000
Forward Contract 7,980 credit
Other comprehensive income 2,014 credit
Exchange loss (net) 1,994

P13-8 (continued)
3 January 15, 2012

Exchange gain (+G,+SE) 4,000
To mark the accounts payable to fair value.
Other comprehensive income (-OCI,-SE) 8,020

To mark the forward contract to fair value.

To record the reclassification from OCI to offset the exchange
gain on the accounts payable

To record the amortization of the premium
The total premium is $4,000 ($672,000 - $668,000), the portion
left to be amortized is $4,000 - $1,994 = $2,006.
Forward contract 16,000

Cash 16,000
To record the settlement of the forward contract.

Cash (fc) (-A) 656,000
To record payment of accounts payable in pounds.
January 15, 2012 account balances:

Accounts Payable: $0
Forward Contract:$7,980 credit + $8,020 – $16,000 = $0
Other Comprehensive Income:$2,014 credit - $8,020 dr + $4,000 cr +
$2,006 cr = $0
Exchange Loss (net): $2,006

Accounting For Derivatives and Hedging Activities: Answers To Questions

Uploaded by

Copyright:

Available Formats

Accounting For Derivatives and Hedging Activities: Answers To Questions

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Accounting For Derivatives and Hedging Activities: Answers To Questions

Uploaded by

Copyright:

Available Formats

Chapter 13

Accounting for Derivatives and Hedging Activities

Copyright © 2015 Pearson Education Limited

Copyright © 2015 Pearson Education Limited

1 a. December 1, 2011 No entry is necessary

b. December 31, 2011

c. Settlement date February 28, 2012

Rice Inventory (+A)($1,005 x 500) 502,500

Cash (+A) 2,500

2 Settlement date June 1, 2012

Cash (+A) 600,000

Cost of Goods Sold (+E) 500,000

Copyright © 2015 Pearson Education Limited

b. December 31, 2011

Firm Purchase Commitment (+A) 9,901

c. Settlement date February 28, 2012

Loss on firm purchase commitment (+Lo,-SE) 12,401

Rice Inventory (+A) 500,000

Cash (+A) 2,500

Cost of Goods Sold (+E,-SE) 500,000

Copyright © 2015 Pearson Education Limited

1 November 1, 2011 Memorandum entry only

December 31, 2011

Unrealized Loss on Firm Sales Commitment (+Lo, 49,751

January 31, 2012

Firm Sales Commitment (+A) 100,000

Forward Contract (-L) 100,000

Copyright © 2015 Pearson Education Limited

Inventory (+A) 50,000

December 31, 2011

The inventory will not be marked to market

January 31, 2012

Copyright © 2015 Pearson Education Limited

1 Implicit rate of return (use formula)

Total amortization needs adjustment on December 31,

Contract receivable (+A) 15,000

Copyright © 2015 Pearson Education Limited

Contract payable (fc) (-L) 15,000

Cash (+A) 15,000

Copyright © 2015 Pearson Education Limited

Forward Forward Present

90-day rate 0.75

To record the purchase of merchandise from Queen NV

Accounts payable (fc)(-

Copyright © 2015 Pearson Education Limited

To adjust accounts payable to year end rate

Other comprehensive income (-SE) $ 9,901 a

Forward contract (+L) $ 9,901

To record fair value of forward contract on December 31, 2014

Exchange loss (+Lo,-SE) $ 5,000

Other comprehensive income

Forward contract value at

Copyright © 2015 Pearson Education Limited

Cash (-A) $ 205,000

To record the payment of accounts payable at spot rate

Other comprehensive income

Forward contract (+L) $ 7,599

Other comprehensive income

Exchange loss (+Lo,