Use the following to answer questions 5 and 6 On November 1, 20x1 Smarty Pants Company,...
Use the following to answer questions 5 and 6
On November 1, 20x1 Smarty Pants Company, a U.S. corporation, purchased diamonds from a Ukrainian company for 3,000,000 rubles, payable in 3 months. The relevant exchange rates between the U.S. and Russian currencies are given:
Spot rate Forward rate (at February 1, 20x2)
November 1, 20x1 $0.456 $0.456
December 31, 20x1 $0.489 $0.481
February 1, 20x2 $0.443
The company's incremental borrowing rate provides a discount rate of 0.945 for three months.
.
- If Smarty Pants does not attempt to hedge this transaction, what is the gain or loss that should be shown on the company's December 31, 20x1 financial statements?
- Assume that on November 1, 20x1 Smarty Pants Company enters a forward contract to buy 3,000,000 rubles on February 1, 20x2. How should Smarty Pants report the forward contract on December 31, 20x1?
Homework Answers
| 1] | Amount recorded as payable = 3000000/0.456 = | $ 65,78,947 |
| Value of the payable on December 31, 20x1 = 3000000/0.489 = | $ 61,34,969 | |
| Gain on exchange rate movement | $ 4,43,978 | |
| 2] | Value of the forward contract on November 1 = 3000000/0.456 = | $ 65,78,947 |
| Value of the forward contract on December 31 = 3000000/0.481 = | $ 62,37,006 | |
| Loss on forward contract | $ 3,41,941 | |
| The forward contract will be reported as a liability at | $ 3,41,941 |
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