
Concept explainers
a.
Prepare
a.

Explanation of Solution
The journal entries read to be passed in year (June month) (Cash flow hedge):
Date | Particulars | Post Ref. | Debit | Credit |
01-06-2015 | goods purchase | $ 85,000 | ||
Accounts payable | $ 85,000 | |||
(to record Purchase of goods and 1,000,000 Francs at the spot rate of $0.085) | ||||
01-06-2015 | Foreign Currency Option | $ 2,000 | ||
Cash | $ 2,000 | |||
(To record the purchase of foreign currency option at the fair value of $0.002) | ||||
30-06-2015 | Foreign exchange loss | $ 3,000 | ||
Account Payable | $ 3,000 | |||
(To adjust the value of the Francs at Spot rate of $0.088) | ||||
09-11-2015 | Foreign Currency Option | $ 2,000 | ||
AOCI | $ 2,000 | |||
(To adjust the fair value of the option from $0.002 to $0.004 with corresponding credit to AOCI (Accumulated Other Comprehensive Income) | ||||
AOCI | $ 11,000 | |||
Gain on Foreign Currency | $ 3,000 | |||
Option Income | $ 5,000 | |||
(To record gain of foreign currency option and the time value change of the option) |
Table: (1)
Impact on the net income for quarter ending on 30th June:
Particulars | Amount | Amount |
Purchase | $ 85,000 | |
Foreign Exchange Loss | ($ 3,000) | |
Gain on Foreign currency option | $ 3,000 | |
Net gain | $ 0 | |
Option Income | $ 5,000 | |
Impact on Net Income | $ 90,000 |
Table: (2)
Journal Entries as on 1st September:
Date | Particulars | Post Ref. | Debit | Credit |
09-01-2015 | Account Payable | $ 2,000 | ||
Foreign Exchange Gain | $ 2,000 | |||
(To adjust the value of the Francs payable to new spot rate of $0.090) | ||||
AOCI | $ 5,000 | |||
Foreign exchange option | $ 5,000 | |||
(To adjust the fair value of the option from $0.085 to $0.090 with corresponding credit to AOCI) | ||||
30-06-2015 | Loss on foreign currency option | $ 2,000 | ||
AOCI | $ 2,000 | |||
(To record gain on foreign currency option to affect the foreign currency loss and account payable with corresponding credit to AOCI) | ||||
09-01-2015 | Account Payable | $ 90,000 | ||
Foreign Currency | $ 90,000 | |||
(To record payment of Francs 1,000,000 supplied at spot rate) | ||||
Foreign Currency | $ 90,000 | |||
Cash | $ 85,000 | |||
Foreign Currency option | $ 5,000 | |||
(To record exercise of option @$0.085 and conclude foreign currency from accounts) |
Table: (3)
Impact on the net income as on 1st September:
Particulars | Amount | Amount |
Foreign exchange gain | $ 5,000 | |
Gain on foreign currency option | ($ 5,000) | |
Net gain/ (loss) | $ 0 | |
Option Income | $ 0 | |
Impact on net income | $ 0 |
Table: (4)
b.
Prepare journal entries for foreign currency option as a fair value hedge of a foreign currency payable. Identify the impact on net income over the two accounting periods.
b.

Explanation of Solution
The following entries need to be passed in year (June month) (Fair value hedge):
Date | Particulars | Post Ref. | Debit | Credit |
06-01-2015 | Goods Purchase | $ 85,000 | ||
Account Payable | $ 85,000 | |||
(to record Purchase of goods and 1,000,000 Francs at the spot rate of $0.085) | ||||
06-01-2015 | Foreign Currency Option | $ 2,000 | ||
Cash | $ 2,000 | |||
(To record the purchase of foreign currency option at the fair value of $0.002) | ||||
30-06-2015 | Foreign exchange loss | $ 3,000 | ||
Account Payable | $ 3,000 | |||
(To adjust the value of the Francs at Spot rate of $0.088) | ||||
09-11-2015 | Foreign Currency Option | $ 2,000 | ||
AOCI | $ 2,000 | |||
(To adjust the fair value of the option from $0.002 to $0.004 with corresponding credit to AOCI (Accumulated Other Comprehensive Income) |
Table: (5)
Impact on net income as on 30th June:
Particulars | Amount | Amount |
Purchase | $ 85,000 | |
Foreign Exchange Loss | ($ 3,000) | |
Gain on foreign currency option | $ 2,000 | |
Net gain/ (Loss) | ($ 1,000) | |
Option Income | ||
Impact on net income | $ 84,000 |
Table: (6)
Journal entries on 1st September:
Date | Particulars | Post Ref. | Debit | Credit |
09-01-2015 | Account Payable | $ 2,000 | ||
Foreign Exchange Gain | $ 2,000 | |||
(To adjust the value of the Francs payable to new spot rate of $0.090) | ||||
Account Payable | $ 5,000 | |||
Foreign Currency | $ 5,000 | |||
(To adjust the fair value of the option from $0.085 to $0.090 with corresponding credit to AOCI) | ||||
30-06-2015 | Loss on foreign currency option | $ 2,000 | ||
AOCI | $ 2,000 | |||
(To record gain on foreign currency option to affect the foreign currency loss and account payable with corresponding credit to AOCI) | ||||
09-01-2015 | Account Payable | $ 90,000 | ||
Foreign Currency | $ 90,000 | |||
(To record payment of Francs 1,000,000 supplied at spot rate) | ||||
Foreign Currency | $ 90,000 | |||
Cash | $ 85,000 | |||
Foreign Currency option | $ 5,000 | |||
(To record exercise of option @$0.085 and conclude foreign currency from accounts) |
Table: (7)
Impact on net income on 30th September:
Particulars | Amount |
Foreign exchange gain | $ 5,000 |
Net impact | $ 5,000 |
Table: (8)
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