Chapter 7, Problem 31P

a.

To determine

Prepare journal entries for transaction of forward contract as a cash flow hedge of foreign currency receivable and recognize any premium or discount using straight line method and identify the impact on net income as 2015 and 2016 and identify the impact on overall net income of two accounting period.

Explanation of Solution

The following entries need to be passed in year 2015 (cash flow hedge):

Date	Particulars	Post Ref.	Debit($)	Credit($)
12/01/15	Account Receivable		43,200
	Sales			43,200
	( To record sale and account receivable at spot rate $\$2.7\times 16000\text{korunas(k)}$
	( No formal entry for forward contract because it an executor contract)
12/3/15	Account Receivable		1,600
	Foreign exchange gain			1,600
	(To relevant the foreign currency account receivable and recognized foreign exchange gain) $\left(\$2.8-\$2.7\right)\times 16000\text{k}$
12/3/15	AOCI ( Accumulated other comprehensive Income)		1960.6
	Forward contact			1960.6
	( To record change in fair value of the forward contract as a liability )$\begin{array}{l}\left(\$2.9-\$2.775\right)\times 16,000\text{k}\\ =\$2,000\\ =\$2,000\times 0.9803=\$1960.6\end{array}$
12/31/15	Loss on forward contract		1,600
	AOCI ( Accumulated other comprehensive Income)			1,600
	(To record loss on forward contract option to affect the gain)
12/31/15	AOCI ( Accumulated other comprehensive Income)		400
	Premium Revenue			400
	(To allocate the premium on forward contract as revenue over the life of contract) $\$43200\left[1-3\sqrt{\frac{\left(2.775\right)}{\left(2.7\right)}}\right]$

Table: (1)

Impact on 2015:

Particular	Amount($)	Amount($)
Sale Revenue		43,200
Foreign exchange gain	1,600
Loss on forward contract	(1,600)
Premium Revenue	-	400
Total		43,600

Table: (2)

Journal entries in 2016:

Date	Particular	Post Ref.	Debit($)	Credit($)
3/1/16	Account Receivable (k)		2,400
	Foreign exchange gain			2,400
	( To revalue at spot rate as on 3/1/2016
12/3/15	AOCI ( Accumulated other comprehensive Income)		839.4
	Forward contact			839.4
	( To adjust the carrying value change of the forward contract at fair value on 3/1/2016) $\begin{array}{l}\left(\$2.775-\$2.95\right)\times 16,000\text{k}\\ \$2800-\$1960.6=839.4\end{array}$
12/31/15	Loss on forward contract		2,400
	AOCI ( Accumulated other comprehensive Income)			2,400
	(To record loss on forward contract to affect the gain on foreign exchange) $\begin{array}{l}\left(\$2.95-\$2.8\right)\times 16,000\text{k}\\ \text{=\$2,400}\end{array}$
12/31/15	AOCI ( Accumulated other comprehensive Income)		800
	Premium Revenue			800
	To allocate the premium os as revenue over the life of contract) $\begin{array}{l}\left[\left(\$2.775-\$2.7\right)\times 16,000\text{k}\right]-\$400\\ =\$800\end{array}$
	Foreign currency (k)		47,200
	Account Receivable			47,200
	( To record the receipt from customer) $\left(\$2.95\times 16,000\text{k}\right)$
	Cash		44,400
	Forward contract		2,800
	Foreign currency			47,200
	( To record the settlement of forward contract ) $\begin{array}{l}\left(\$2.775-\$2.95\right)\times 16,000\text{k}\\ \text{=\$2,800}\end{array}$

Table: (3)

Impact on net income for year 2016:

Particular	Amount($)	Amount($)
Foreign exchange gain	2,400
Loss on foreign exchange	(2,400)
Net gain/(loss)		0
Premium Revenue	-	800
Impact on income		800

Table: (4)

Working note:

Net income over the two accounting period:

Particulars	Amount($)
Gain 2015	1,600
Gain 2016	2,400
Premium $\left(2.775-2.7\right)\times 16,000$	1,200
Net gain	5,200

Table: (5)

b.

To determine

Prepare journal entries for transaction of forward contract as a fair value hedge of foreign currency receivable and recognize any premium or discount using straight line method and identify the impact on net income as 2015 and 2016 and identify the impact on overall net income of two accounting period.

Explanation of Solution

The journal entries for transaction of forward contract as a fair value hedge of foreign currency receivable and recognize any premium or discount using straight line method:

Date	Particulars	Post Ref.	Debit($)	Credit($)
12/1/16	Account Receivable		43,200
	Sales			43,200
	( To record sales and account receivable at spot rate)
12/31/15	Account Receivable		1,600
	Foreign Exchange gain			1,600
	( To relevant the foreign currency account receivable and recognize a foreign exchange gain)
12/31/15	Loss on forward contract		1960.6
	Forward contract			1960.6
	(To record forward contract to liability)

Table: (6)

Impact on net income of 2015:

Particular	Amount($)	Amount($)
Sales		43,200
Foreign exchange gain	1,600
Loss on forward contract	(1,960.6)
Net gain/(loss)	-	(360.6)
Impact on net income		43,839.4

Table: (7)

Journal entries in 2016:

Date	Particulars	Post Ref.	Debit($)	Credit($)
3/1/16	Account Receivable		2,400
	Foreign exchange gain			2,400
	( To revalue at spot rate as on 3/1/2016
12/03/15	Loss on forward contact		839.4
	Forward contact			839.4
	( To adjust the carrying value change at fair value)
12/31/15	Foreign currency		47,200
	Account Receivable			47,200
	( To record the receipt from customer)
	Cash		44,400
	Forward contract		2,800
	Foreign currency			47,200
	( To record the settlement of forward contract )

Table: (8)

Impact on net income for year 2016:

Particular	Amount($)
Foreign exchange gain	2,400
Loss on foreign exchange	(839.4)
Impact on net income	1,560.6

Table: (9)

Working note:

Net income over the two accounting period:

Particular	Amount($)
2015 Income loss	(360.6)
2016 Gain	1,560.6
Net impact gain	1,200

Table: (10)