On January 1, 20X1, Novak, Inc., enters into an interest rate swap and agrees to receive fixed and pay variable on a notional amount of $5,000,000. The contract calls for cash settlement of the net interest amount at December 31 of each year. The yield curve is flat, and the agreement is to last until December 31, 20X9. Both the fixed annual rate and the variable annual rate at January 1, 20X1, are 7.00%. The variable interest rate is reset at the end of each year and becomes effective for the next year. On December 31, 20X1, the variable rate is reset to 8.00% per year, and on December 31, 20X2, the variable rate is reset to 5.00%. Required: Compute the fair value of the swap agreement at December 31, 20X1. Be sure to indicate whether it is an asset or a liability. Compute the fair value of the swap agreement at December 31, 20X2. Be sure to indicate whether it is an asset or a liability.
On January 1, 20X1, Novak, Inc., enters into an interest rate swap and agrees to receive fixed and pay variable on a notional amount of $5,000,000. The contract calls for cash settlement of the net interest amount at December 31 of each year. The yield curve is flat, and the agreement is to last until December 31, 20X9. Both the fixed annual rate and the variable annual rate at January 1, 20X1, are 7.00%. The variable interest rate is reset at the end of each year and becomes effective for the next year. On December 31, 20X1, the variable rate is reset to 8.00% per year, and on December 31, 20X2, the variable rate is reset to 5.00%. Required: Compute the fair value of the swap agreement at December 31, 20X1. Be sure to indicate whether it is an asset or a liability. Compute the fair value of the swap agreement at December 31, 20X2. Be sure to indicate whether it is an asset or a liability.
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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Question
On January 1, 20X1, Novak, Inc., enters into an interest rate swap and agrees to receive fixed and pay variable on a notional amount of $5,000,000. The contract calls for cash settlement of the net interest amount at December 31 of each year. The yield curve is flat, and the agreement is to last until December 31, 20X9. Both the fixed annual rate and the variable annual rate at January 1, 20X1, are 7.00%. The variable interest rate is reset at the end of each year and becomes effective for the next year. On December 31, 20X1, the variable rate is reset to 8.00% per year, and on December 31, 20X2, the variable rate is reset to 5.00%.
Required:
- Compute the fair value of the swap agreement at December 31, 20X1. Be sure to indicate whether it is an asset or a liability.
- Compute the fair value of the swap agreement at December 31, 20X2. Be sure to indicate whether it is an asset or a liability.
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