64. Rex Corporation, a U.S. firm with a calendar accounting year, agreed to buy a specially made truck from a
Japanese firm for delivery on February 28, 20X2 with payment due on that date. On the same date the
agreement was signed, November 1, 20X1, a forward contract due on February 28, 20X2, was also signed to
purchase 1,000,000 yen, the contract price of the truck. Exchange rates were as follows:
Date
Spot Rate
Forward Rate
11/1/X1
$0.0076
$0.0078
12/31/X1
$0.0081
$0.0080
2/28/X2
$0.0085
$0.0085
Discount rate = 8%
Required:
Prepare the journal entries needed to properly reflect the purchase and forward contract through the end of the fiscal year.
Nov. 1
Memo: Company commits to buy truck
Dec. 31
Loss on Firm Commitment
197
Firm Commitment
197
Forward Contract
197
Gain on Contract
197
11/1
12/31
Notional amount
1,000,000
1,000,000
Spot Rate
.0076
.0081
Forward Rate-Remaining Time
.0078
.0080
Initial Forward Rate
.0078
Fair Value of Forward Contract
Original Forward Value
7,800.00
Current Forward Value
8,000.00
Change; gain (loss) in forward value
200.00
Current present value (n = 2, .08/12) (200 / 1.01338)
197
Prior PV of change
0
Change in PV
197
65. On January 1, 20X1, a domestic firm agrees to sell goods to a foreign customer, with delivery to be made
and payment to be received on April 1, 20X1. The goods are valued at 50,000 FC. On January 1, 20X1, the
domestic firm purchased a 90-day forward contract to sell 50,000 FC. Exchange rates on selected dates are as
follows:
Date
Fwd Rate
1/1/X1
1FC = $0.99
2/28/X1 (year-end)
1FC = $0.97
4/1/X1
1FC = $0.96
Discount rate = 10%
Required:
Prepare the journal entries needed to properly reflect the sales transaction and the forward exchange contract. The forward contract meets the
conditions necessary to be classified as a hedge on an identifiable foreign currency commitment. Include the table to calculate the split between
exchange gains or losses on the contract due to changes in spot rates and the changes in time value.
Jan. 1
Memo: Company commits to sell goods.
Feb. 28
Loss on Firm Commitment
992
Firm Commitment
992
Forward Contract
992
Gain on Contract
992
Apr. 1
Forward Contract
508
Gain on Contract
508
Loss on Firm Commitment
508
Firm Commitment
508
Foreign Currency (50,000 x .96)
48,000
Firm Commitment
1,500
Sales Revenue (50,000 x .99)
49,500
Cash
49,500
Forward Contract
1,500
Foreign Currency
48,000
1/1
2/28
4/1
# of FC
50,000
50,000
50,000
Spot Rate
1.00
.98
.96
Forward Rate-Remaining Time
.99
.97
.96
Initial Forward Rate
.99
.99
Fair Value of Forward Contract:
Original
49,500
49,500
Current
48,500
48,000
Present Value of Change:
n = 1, i = .10/12 (1000 / 1.00833)
992
n = 0, i = .10/12
1,500
Change in Value:
Current Present Value
992
1,500
Prior Present Value
0
992
Change in Present Value
992
508
66. Bulldog Enterprise, a U.S. firm, agreed on February 1, 20X1, to buy gears from a Mexican firm for 75,000
pesos. Delivery is scheduled for May 1, 20X1, with payment due at that time. On February 1, 20X1, Bulldog
also acquired a forward contract to buy 75,000 pesos on May 1, 20X1. (The gears represent inventory to the
U.S. firm.) Bulldog’s year end is March 31.
Required:
Prepare the journal entries necessary for Bulldog Enterprise to record this activity. Assume that the following
exchange rates existed:
Date
Spot Rate
Forward Rate
February 1, 20X1
1 peso = $0.223
1 peso = $0.227
March 31, 20X1
1 peso = $0.228
1 peso = $0.230
May 1, 20X1
1 peso = $0.226
1 peso = $0.226
Discount rate 15%
Feb. 1
Apr. 1
Loss on Firm Commitment
222
Firm Commitment
222
Forward Contract
222
Gain on Contract
222
May 1
Loss on Contract
297
Forward Contract
297
Firm Commitment
297
Gain on Firm Commitment
297
Inventory (75,000 x .227)
17,025
Foreign Currency (75,000 x .226)
16,950
Firm Commitment
75
Foreign Currency (75,000 x .226)
16,950
Forward Contract
75
Cash (75,000 x .227)
17,025
67. On November 1, 20X8 Desket, Inc. a U.S. company agreed to sell goods to a foreign buyer for 200,000 FC.
The goods were to be shipped on January 31, 20X9 with payment to be received on that day.
The hedging contract, signed on November 1, 20X8, called for the sale of 200,000 FC on January 31, 20X9.
Assume the December 31 is fiscal year end. Exchange rates are as follows:
Spot Rate
Fwd Rate
11/1/X8
$0.66
$0.69
12/31/X8
$0.67
$0.68
1/31/X8
$0.66
$0.66
Discount rate = 12%
Required:
Prepare all necessary entries through December 31, 20X8 for the commitment hedge and sale. Ignore Cost of Goods Sold.
Nov. 1
Memo: Company agreed to sell goods for 200,000 FC
Dec. 31
Loss on Firm Commitment
1,980
Firm Commitment
1,980
Forward Contract
1,980
Gain on Contract
1,980
Jan. 31
Loss on Firm Commitment
4,020
Firm Commitment
4,020
Forward Contract
4,020
Gain on Contract
4,020
Foreign Currency (200,000 x .66)
132,000
Firm Commitment
6,000
Sales (200,000 x .69)
138,000
Cash (200,000 x .69)
138,000
Forward Contract
6,000
Foreign Currency (200,000 x .66)
132,000
68. On 7/1, a company forecasts the purchase of 10,000 units of inventory from a foreign vendor. The
forecasted cost is estimated to be 150,000 FC. It is estimated inventory will be delivered 11/1. Also, on 7/1, the
company purchased a call option to buy 150,000 FC at a strike price of $0.60 anytime during October. An
option premium of $2,000 was paid.
July 1
July 31
August 31
October 1
Spot
$0.58
$0.61
$0.63
$0.635
Fair Value of Option
$2,000
$2,500
$5,100
$5,500
Required:
Prepare the journal entries required through 10/1.
7/1
Investment in Call Option
2,000
Cash
2,000
7/31
Investment in Call Option (2,500 – 2,000)
500
Loss on Option
1,000
OCI [(.61 – .60) ´ 150,000]
1,500
8/31
Investment in Call Option (5,100 – 2,500)
2,600
Loss on Option
400
OCI [(.63 – .61) ´ 150,000]
3,000
10/1
Investment in Call Option (5,500 – 5,100)
400
Loss on Option
350
OCI [(.635 – .63) ´ 150,000]
750
Cash
5,500
Investment in Call Option
5,500
Inventory (150,000 x .635)
95,250
Cash
95,250
July 1
July 31
August 31
October 1
Strike Price
$0.60
$0.60
$0.60
$0.60
Spot Rate
$0.58
$0.61
$0.63
$0.635
Fair Value of Option
$2,000
$2,500
$5,100
$5,500
Intrinsic Value of Option *
0
1,500
4,500
5,250
Time Value of Option
2,000
1,000
600
250
Lesser in absolute value
1,500
4,500
5,250
69. On November 1, 20X1, a U.S. company purchased inventory from a foreign supplier for 100,000 FC, with
payment to be made on January 31, 20X2, in FC. To hedge against fluctuations in exchange rates, the firm
entered into a forward exchange contract on November 1 to purchase 100,000 FC on January 31, 20X2. The
U.S. firm has a December 31 year end for accounting purposes. The following exchange rates may apply:
Date
Spot Rate
Fwd Rate
11/1/X1
$0.15
$0.13
12/31/X1
$0.16
$0.14
1/31/X2
$0.165
$0.165
Discount rate = 12%. The transaction qualifies for treatment as a cash flow hedge.
Required:
Make all the necessary journal entries for the U.S. firm relative to these events occurring between November 1, 20X1, and January 31, 20X2.
Nov. 1
Inventory
15,000
Accounts Payable
15,000
Memo: Company acquired a forward contract to buy
100,000 FC at a forward rate of $0.13
Dec. 31
Exchange Loss [100,000 x (.16 – .15)]
1,000
Accounts Payable
1,000
Forward Contract
990
Other Comprehensive Income
343
Amortization of Discount (666 x 2)
1,333
Other Comprehensive Income
1,000
Gain on Contract
1,000
Jan. 31
Forward Contract
2,510
Other Comprehensive Income
1,843
Amortization of Discount
667
Foreign Currency (100,000 x .165)
16,500
Forward Contract
3,500
Cash (100,000 x .13)
13,000
Accounts Payable (15,000 + 1,000)
16,000
Exchange Loss
500
Foreign Currency
16,500
Other Comprehensive Income
500
Gain on Contract
500
70. Differentiate between the following monetary systems: floating system, controlled float system and tiered
system.
71. Describe the risks and uncertainty a U.S. company faces when purchasing goods from a foreign corporation
and settling the transaction in the foreign currency.
72. Discuss the differences in using an option to hedge a foreign currency risk rather than a forward contract.
73. For a hedge on an exposed position, describe the process of valuing the forward contract as of the fiscal
period end date.
Calculate the fair value of the forward contract *:
Original Fwd Value of Contract
Change gain (loss) in forward value
* The number of days forward is based on the number of days remaining until the settlement date.
b.
Calculate the present value of the change:
Change in forward value discounted at a rate of interest12 periods, for
n = number of months until settlement
Calculate the change in present value:
Current Present value of contract
Prior Present value of contract
Change in Present Value