Mega Company believes the price of oil will increase in the coming months. Therefore, it decides to purchase call options on oil as a price-risk-hedging device to hedge the expected increase in prices on an anticipated purchase of oil.On November 30, 20X1, Mega purchases call options for 14,000 barrels of oil at $30 per barrel at a premium of $2 per barrel with a March 1, 20X2, call date. The following is the pricing information for the term of the call: Date Spot Price Futures Price (for March 1, 20X2, delivery) November 30, 20X1 $ 30 $ 31 December 31, 20X1 31 32 March 1, 20X2 33 The information for the change in the fair value of the options follows: Date Time Value Intrinsic Value Total Value November 30, 20X1 $ 28,000 $ –0– $ 28,000 December 31, 20X1 6,000 14,000 20,000 March 1, 20X2 42,000 42,000 On March 1, 20X2, Mega sells the options at their value on that date and acquires 14,000 barrels of oil at the spot price. On June 1, 20X2, Mega sells the oil for $34 per barrel. Prepare the journal entry required on November 30, 20X1, to record the purchase of the call options. Prepare the adjusting journal entry required on December 31, 20X1, to record the change in time and intrinsic value of the options. Prepare the entries required on March 1, 20X2, to record the expiration of the time value of the options, the sale of the options, and the purchase of the 14,000 barrels of oil. Prepare the entries required on June 1, 20X2, to record the sale of the oil and any other entries required as a result of the option.
Mega Company believes the price of oil will increase in the coming months. Therefore, it decides to purchase call options on oil as a price-risk-hedging device to hedge the expected increase in prices on an anticipated purchase of oil.On November 30, 20X1, Mega purchases call options for 14,000 barrels of oil at $30 per barrel at a premium of $2 per barrel with a March 1, 20X2, call date. The following is the pricing information for the term of the call:
| Date | Spot Price | Futures Price (for March 1, 20X2, delivery) |
|---|---|---|
| November 30, 20X1 | $ 30 | $ 31 |
| December 31, 20X1 | 31 | 32 |
| March 1, 20X2 | 33 |
The information for the change in the fair value of the options follows:
| Date | Time Value | Intrinsic Value | Total Value |
|---|---|---|---|
| November 30, 20X1 | $ 28,000 | $ –0– | $ 28,000 |
| December 31, 20X1 | 6,000 | 14,000 | 20,000 |
| March 1, 20X2 | 42,000 | 42,000 |
On March 1, 20X2, Mega sells the options at their value on that date and acquires 14,000 barrels of oil at the spot price. On June 1, 20X2, Mega sells the oil for $34 per barrel.
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Prepare the journal entry required on November 30, 20X1, to record the purchase of the call options.
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Prepare the adjusting journal entry required on December 31, 20X1, to record the change in time and intrinsic value of the options.
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Prepare the entries required on March 1, 20X2, to record the expiration of the time value of the options, the sale of the options, and the purchase of the 14,000 barrels of oil.
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Prepare the entries required on June 1, 20X2, to record the sale of the oil and any other entries required as a result of the option.
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