Problem A–1 (continued)
Requirement 6
Income Statement + (−)
2016 (8,000) Interest expense
(1,000) Interest expense
2017 (8,000) Interest expense
2018 (8,000) Interest expense
A–18 Intermediate Accounting, 8/e
Problem A–1 (concluded)
Requirement 7
Your entries would not be affected. When a note’s fair value changes by an
amount different from that of a designated hedge instrument for reasons unrelated
to interest rates, we ignore those changes. We recognize only the fair value
changes in the hedged item that we can attribute to the risk being hedged (interest
rate risk in this case). The entries still would be:
Interest expense (8% x $100,000) 8,000
Cash 8,000
To record interest
Problem A–2
Requirement 1
CMOS has an unrealized gain due to the increase in the value of the derivative (not
necessarily the same amount). Because interest rates declined, the swap will
Requirement 2
CMOS would have an unrealized loss due to the decrease in the value of the
derivative. Because interest rates increased, the swap will cause CMOS to pay the
A–20 Intermediate Accounting, 8/e
Problem A-2 (continued)
Requirement 3
The unrealized gain on the swap and loss on the bonds would not be affected.
When a hedged debt’s fair value changes by an amount different from that of a
Requirement 4
There would be an unrealized gain due to the increase in the value of the
derivative. There is an unrealized loss on the bonds (a liability). However, the gain
on the derivative would be $20,000 more than the loss on the bonds. Because the
Problem A–2 (concluded)
Requirement 5
There would be an unrealized loss due to a decrease in the value of the derivative,
a liability to BIOS. Because interest rates declined, the swap would cause BIOS to
A–22 Intermediate Accounting, 8/e
Problem A–3
Requirement 1
January 1 December 31
2016 2016 2017 2018
Fixed rate 8% 8% 8% 8%
Requirement 2
January 1, 2016
Cash 100,000
December 31, 2016
Interest expense (8% x $100,000) 8,000
Cash 8,000
Problem A–3 (continued)
Requirement 3
December 31, 2017
Interest expense (9% x $98,241) 8,842
Notes payable (difference) 842
A–24 Intermediate Accounting, 8/e
Problem A–3 (continued)
Requirement 4
December 31, 2018
Interest expense (7% x $100,935) 7,065
Notes payable (difference) 935
Problem A–3 (continued)
Requirement 5
Swap Note
A–26 Intermediate Accounting, 8/e
Problem A-3 (continued)
Requirement 6
Income Statement + (−)
2016 (8,000) Interest expense
2017 (8,842) Interest expense
2018 (7,065) Interest expense
Problem A–3 (concluded)
Requirement 7
Your entries would not be affected. When a note’s fair value changes by an
amount different from that of a designated hedge instrument for reasons unrelated
to interest rates, we ignore those changes. We recognize only the fair value
A–28 Intermediate Accounting, 8/e
CASES
Real World Case A–1
Requirement 1
When Johnson & Johnson indicates that it expects that substantially all of the
balance of deferred net gains on derivatives will be reclassified into earnings over the
Requirement 2
A gain or loss from a “fair value” hedge is recognized immediately in earnings
Communication Case A–2
Depending on the assumptions made, different views can be convincingly
defended. The process of developing and synthesizing the arguments likely will be
more beneficial than any single solution. Each student should benefit from
participating in the process, interacting first with his or her partner, then with the class
as a whole. It is important that each student actively participate in the process.
Domination by one or two individuals should be discouraged.
Hedging means taking an action that is expected to produce exposure to a
particular type of risk that’s precisely the opposite of an actual risk to which the
company already is exposed. Under existing hedge accounting, if the contract meets
specified hedging criteria, the income effects of the hedge instrument and the income
effects of the item being hedged should be recognized at the same time.
Arguments raised may focus on a variety of issues including:
• Which hedges should qualify for special accounting? Hedges of risk of loss?
Hedges that reduce the variability of outcomes?
• Should treatment be different for fair value hedges and cash flow hedges?
• Should only risk exposures arising from existing assets or liabilities qualify
for special accounting? Should anticipated transactions be included also?
• To what extent, if any, must there be correlation between the gains and losses
on the hedge instrument and the item being hedged?
• How should any deferred gain or loss be classified prior to recognition?
A–30 Intermediate Accounting, 8/e
Real World Case A–3
The following is a copy of the 13-Week U.S. Treasury Bill Futures: Settlement Prices
as of May 18, 2014:
•
o Market data is delayed by at least 10 minutes
Month
Charts
Last
Change
Prior Settle
Open
High
Volume
Updated
MAY 2014
Show Price
Chart
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99.27
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0
19:01:10 CT
16 May
2014
Chart
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–
–
–
0
2014
Chart
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–
99.27
–
–
0
16 May
2014
Chart
–
–
–
–
0
2014
Chart
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–
–
–
0
16 May
2014
2014
MAR 2015
Chart
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99.27
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0
T-BILLS FUTURES QUOTESGLOBEX
Research Case A–4
[Note: This case requires the student to reference a journal article. Authoritative accounting
literature references are to pre-Codification standards.]
Requirement 1
According to the authors, the primary problems or issues the FASB was attempting to
address with the standard are the following:
authoritative accounting guidance. Accounting practice had filled some of those
gaps on issues such as “synthetic instrument accounting” without any
commonly understood limitations on their appropriate use. The result of this
accounting hodgepodge was that (a) many derivative instruments were carried
under the previous accounting standards—futures contracts were reported at fair
value, foreign currency forward contracts at amounts that reflect changes in
foreign exchange rates but not other value changes, and other derivatives
unrecognized or reported at nominal amounts that were a small fraction of the
value of their potential cash flows. Other hedge accounting inconsistencies
A–32 Intermediate Accounting, 8/e
Case A–4 (concluded)
• Previous accounting guidance for derivatives and hedging was complex. The
lack of a single, comprehensive approach to accounting for derivatives and
• Effects of derivatives were not apparent. Under the previous varied practices,
derivatives may or may not have been recognized in the financial statements. If
Requirement 2
In considering the issues, the FASB made four fundamental decisions that became the
cornerstones of the proposed statement. According to the article, those fundamental
decisions were:
• Derivatives are assets or liabilities and should be reported in the financial
statements.