Question

On December 15, 20X8, Preprep Co., a Canadian company, entered into a contract to purchase goods from Mega-Lu Ltd., a foreign corporation. The terms of the contract call for the goods to be delivered to Preprep’s Edmonton location on March 31, 20X9. The cost of the goods is FC500,000, to be settled on April 30, 20X9.

On December 15, 20X8, Preprep Co. also arranged for a forward contract through its bank for FC500,000. The goods were delivered on time and Preprep settled with Mega-Lu on April 30. Preprep has a February 28 year-end.

The spot and forward rates are as follows:
                                                                                         Spot Rate             Forward Rate
            December 15, 20X8                                    FC1 = $1.40 CDN    FC1 = $1.44 CDN
            February 28, 20X9                                                   $1.42                          $1.46

March 31, 20X9                                                        $1.43                          $1.47

April 30, 20X9                                                           $1.48                          $1.48

Required:

Prepare Preprep’s journal entries to reflect the above, assuming
a) the hedge is a cash flow hedge, and

b) the hedge is a fair value hedge.

Answer 1

Preprep Co., a.Cashflow Hedge Journal Enteries Debit in $ Credit in $ Particulars Date 15.12.20X8 Inventory a/c Dr. 700000 To Accounts Payable 700000 |($500,000 * 1.40) Exchange gain/losses a/c 28.2.20X8 Dr. 10000 To Accounts Payable [$500,000 * (1.42 - 1.40)] Forward contract a/c To OCI - Cash flow hedge 28.2.20X8 Dr. 10000 10000 [$500,000 * (1.46 - 1.44)] Exchange gain/losses a/c To Accounts Payable 5000 31.3.20X8 Dr. 5000 [$500,000 * (1.43 - 1.42)] Exchange gain/losses a/c To Accounts Payable 30.4.20X8 Dr. 25000 25000 [$500,000 * (1.48 - 1.43)] Forward contract a/c 30.4.20X8 Dr. 10000 To OCI - Cash flow hedge [$500,000 * (1.48 - 1.46)] 10000 Accounts payable a/c To Cash 30.4.20X8 740000 Dr. 740000 ($500,000 * 1.48) Cash a/c 30.4.20X8 740000 Dr. To Forward Contract 20000 To Cash 720000 OCI - Cash flow hedge a/c 30.4.20X8 Dr. 20000 To Exchange gain or loss 20000

a.Fair Value Hedge Journal Enteries Debit in $ Credit in $ Particulars Date 15.12.20X8 Inventory a/c 700000 Dr. To Accounts Payable 700000 ($500,000 * 1.40) Exchange gain/losses a/c To Accounts Payable 28.2.20X8 Dr. 10000 10000 [$500,000 * (1.42 - 1.40)] Forward contract a/c 28.2.20X8 Dr. 10000 To Exchange gain or loss [$500,000 * (1.46 - 1.44)] 10000 Exchange gain/losses a/c To Accounts Payable 5000 31.3.20X8 Dr. 5000 [$500,000 * (1.43 - 1.42)] Exchange gain/losses a/c To Accounts Payable 30.4.20X8 Dr. 25000 25000 [$500,000 * (1.48 - 1.43)] Forward contract a/c 30.4.20X8 Dr. 10000 To Exchange gain or loss 10000 [$500,000 * (1.48 - 1.46)] 30.4.20X8 Cash a/c Dr. 740000 To Forward Contract 20000 To Cash 720000 Accounts payable a/c To Cash 30.4.20X8 Dr. 20000 20000