Fair Value Hedge: Put Options Over hill Farms Inc. has a large portfolio of marketable equity securities held as short-term investments. To protect against declines in the value of 10,000 shares of ABC Corp. common stock, on November 1, 2013, Overhill Farms purchased 90-day put options for $35,000 on the 10,000 ABC shares it had purchased at $40. The exercise price is $40 and the shares are selling for $38 each. Overhill Farms designates the intrinsic value of the puts as the hedge instrument. Assume the fair value of the time value component of the premium declines on a straight-line basis. Overhill Farms classifies the ABC Corp. shares as available-for-sale securities.
Required
a. Prepare journal entries to record purchase of the puts and relevant events on November 1, 2013, and when the books are closed at December 31,2013, and the stock is selling for $35.50.
b. Thirty days after the closing in part a, Overhill Farms decides to sell the 10,000 ABC shares for $32 each and to sell the put options. Calculate the net cash gain or loss realized on these sale transactions.
c. How much of this net cash gain or loss is recognized in 2013 income? In 2014 income?