Problem 9

Entity A has the peso as its functional currency. It expects to purchase a machine for $10,000 on October 31, 2020. Accordingly, it is exposed to the risk of increases in the dollar rate. If the dollar rate increases before the purchase takes place, the entity will have to pay more pesos to obtain the $10,000 that it will have to pay for the machine. To offset the risk of increases in the dollar rate, the entity enters into a forward contract on April 30, 2020, to purchase $10,000 in six-months for a fixed amount of P500,000. Entity A designates the forward contract as a hedging instrument in a cash flow hedge of its exposure to increases in the dollar rate.

On July 31, 2020, the dollar has appreciated such that $10,000 for delivery on October 31, 2020 costs P550,000 on the market. Therefore, the forward contract has increased in fair value by P50,000; i.e., the difference between the committed price of P500,000 and the current price of P550,000. (Ignoring for simplicity, the effect of differences in interest rates between the two currencies) Entity A still expects to purchase the machine for $10,000, so it concludes the hedge is 100% effective. Because the hedge is fully effective, the entire change in the fair value of the hedging instrument is recognized directly in equity.

On October 31, 2020, the dollar rate has further increased, such that $10,000 cost 560,000 in the spot market. Therefore, the fair value of the forward contract has increased by P60,000; the difference between the committed price of P500,000 and the spot price of P560,000. It still expects to purchase machine for $10,000.

Required: journal entries for the given information.

Problem 10

On December 31, 2020, Pepper Company paid 3,000 to purchase a 90-day call option for 500,000 Thailand Baht. The option's purpose is to protect an exposed liability of 500,000 Baht relating to a purchase of merchandise received on December 1, 2020 and to be paid on March 1, 2021. Relevant rates and market values at different dates are as follows:

12/1/2012/31/203/1/21

Spot rate1.201.281.27

Strike price1.201.201.20

Fair value of call option3,00042,00035,000

I. The December 31, 2020 accounts payable amounted to:

a. 600,000c. 635,000

b. 640,000d. P0

II. The December 31, 2020 foreign currency contract value-option is:

a. 3,000c. 35,000

b. 42,000d. 39,000

III. The December 31, 2020 net foreign exchange gain or loss is:

a. P0c. (1,000)

b. 1,000d. 40,000

IV. The March 1, 2021 expiration date foreign exchange net gain or loss is

a. P0c. (2,000)

b. 2,000d. 5,000

V. The March 1, 2021 expiration date, the foreign currency contract value-option is:

a. 3,000c. 39,000

b. 35,000d. 42,000

VI. Calculate the options time value at December 1, 2020.

a. 3,000c. 40,000

b. 35,000d. 42,000

VII. Calculate the option's intrinsic value at December 31, 2020.

a. 3,000c. 40,000

b. 35,000d. 42,000

VIII. Calculate the option's time value and intrinsic value at March 1, 2021.

a. 3,000 and 35,000c. P0 and 35,000

b. 4,000 and 39,000d. 35,000 and P0