Question

1)       Company A has a contract that has an underlying, required no initial investment, and will be settled net. However, this contract has no notional amount but specifies that Company A must pay the holder $3 million if LIBOR exceeds 8% any time in the next three years. Doe this contract qualify as a derivative financial instrument? Why or Why not?

2)       If a contract fails to qualify as a derivative financial instrument at its inception but later does qualify as a derivative, how does the entity account for the derivative?

3)       If an entity were to determine that it is impracticable to estimate the fair value of a derivative instrument (or the fair value of a hedged item that is attributable to the risk that is being hedged in a fair value hedge), could that entity elect not to apply the provisions of ASC 815?

4)       If a derivative is embedded in debt such that the interest payments on the debt are indexed to the price of gold and are settled in cash, must the derivative be separated from the host contract? The company has not elected the fair value option related to the debt instrument.

5)       Companies A and B enter into a swap contract based on the temperatures registered during the summer months of June, July, and August. The contract specifies the measurement of a heating degree day, the strike level of heating degree days across the period of the contract, the payment terms based on whether the cumulative heating degree days exceed or fall below the strike level. Company A will pay Company B if the strike level is exceeded and Company B will pay Company A if the actual heating degree days fall below the strike level. The settlement of the contract will occur on September 15. Does this contract qualify as a derivative financial instrument? Why or Why not?

Answer 1

Answering question first as HOMEWORKLIB's guidelines:

1.The contract between A and the holder is qualify as derivative financial instrument.Since the contract is derived its value from interest rate(i.e LIBOR).Further,it is used to assume risk with the expectation of commensurate reward(speculation).