foreign currency transactions and hedging

Chapter 9 Foreign Currency Transactions and Hedging Foreign Exchange Risk

Foreign Currency Transactions and Hedging Foreign Exchange Risk

Multiple Choice

[QUESTION]1. Pigskin Co., a U.S. corporation, sold inventory on credit to a British company on April 8, 2008. Pigskin received payment of 35,000 British pounds on May 8, 2008. The exchange rate was $1 = £0.65 on April 8 and $1 = £0.70 on May 8. What amount of foreign exchange gain or loss should be recognized? (round to the nearest dollar) A) $10,500 loss B) $10,500 gain C) $1,750 loss D) $3,846 loss E) No gain or loss should be recognized. Answer: D Difficulty: Medium REFERENCE: Ref. 09_01Norton Co., a U.S. corporation, sold inventory on December 1, 2008, with payment of 10,000 British pounds to be received in sixty days. The pertinent exchange rates were as follows:

[QUESTION]REFER TO: Ref. 09_012. For what amount should Sales be credited on December 1? A) $5,500. B) $16,949. C) $18,182. D) $17,241. E) $16,667. Answer: D Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_013. What amount of foreign exchange gain or loss should be recorded on December 31? A) $300 gain. B) $300 loss. C) $0.D) $941 loss. E) $941 gain. Answer: E Difficulty: Medium [QUESTION]REFER TO: Ref. 09_014. What amount of foreign exchange gain or loss should be recorded on January 30?


A) $1,516 gain. B) $1,516 loss. C) $575 loss.D) $500 loss. E) $500 gain. Answer: B Difficulty: Medium

REFERENCE: Ref. 09_02Brisco Bricks purchases raw material from its foreign supplier, Bolivian Clay, on May 8. Payment of 2,000,000 foreign currency units (FC) is due in 30 days. May 31 is Brisco's fiscal year-end. The pertinent exchange rates were as follows:

[QUESTION]REFER TO: 09_025. For what amount should Brisco's Accounts Payable be credited on May 8? A) $2,500,000. B) $2,440,000. C) $1,600,000. D) $1,639,344. E) $1,666,667. Answer: A Difficulty: Medium [QUESTION]REFER TO: 09_026. How much Foreign Exchange Gain or Loss should Brisco record on May 31? A) $2,520,000 gain. B) $20,000 gain. C) $20,000 loss. D) $80,000 gain. E) $80,000 loss. Answer: C Difficulty: Medium [QUESTION]REFER TO: 09_027. How much US $ will it cost Brisco to finally pay the payable on June 7? A) $1,666,667. B) $2,440,000. C) $2,520,000. D) $2,500,000. E) $2,400,000. Answer: E Difficulty: Medium


[QUESTION]8. On June 1, CamCo received a contract to sell inventory for ¥500,000. The sale would take place in 90 days. CamCo immediately signed a 90-day forward contract to sell the yen as soon as they are received. The spot rate on June 1 was $1 = ¥240, and the 90-day forward rate was $1 = ¥234. At what amount would CamCo record the Forward Contract on June 1? A) $2,083. B) $0. C) $2,110. D) $2,532. E) $2,137. Answer: B Difficulty: Medium [QUESTION]9. Belsen purchased inventory on December 1, 2008. Payment of 200,000 stickles was to be made in sixty days. Also on December 1, Belsen signed a contract to purchase §200,000 in sixty days. The spot rate was $1 = §2.80, and the 60-day forward rate was $1 = §2.60. On December 31, the spot rate was $1 = §2.90 and the 30-day forward rate was $1 = §2.62. Assume an annual interest rate of 12% and a fair value hedge. The present value for one month at 12% is .9901. In the journal entry to record the establishment of a forward exchange contract, at what amount should the Forward Contract account be recorded on December 1? A) $71,428.57. B) $76,923.08. C) $5,549.51. D) $587.20. E) $ 0, since there is no cost, there is no value for the contract at this date. Answer: E Difficulty: Easy [QUESTION]10. Meisner Co. ordered parts costing §100,000 for a foreign supplier on May 12 when the spot rate was $.24 per stickle. A one-month forward contract was signed on that date to purchase §100,000 at a forward rate of $.25 per stickle. On June 12, when the parts were received and payment was made, the spot rate was $.28 per stickle. At what amount should inventory be reported? A) $0. B) $28,000. C) $24,200. D) $25,000.E) $2,000. Answer: B Difficulty: Medium REFERENCE: Ref. 09_03Car Corp. (a U.S.-based company) sold parts to a Korean customer on December 16, 2008, with payment of 10 million Korean won to be received on January 15, 2009. The following exchange rates applied:


[QUESTION]REFER TO: Ref. 09_0311. Assuming a forward contract was not entered into, what would be the net impact on Car Corp.'s 2008 income statement related to this transaction? A) $ 500 (gain). B) $ 500 (loss). C) $ 200 (gain). D) $ 200 (loss). E) $ - 0 - Answer: C Difficulty: Medium [QUESTION]REFER TO: Ref. 09_0312. Assuming a forward contract was entered into, what would be the net impact on Car Corp.'s 2008 income statement related to this transaction? Assume an annual interest rate of 12% and a fair value hedge. The present value for one month at 12% is .9901. A) $ 700 (gain). B) $ 700 (loss). C) $ 300 (gain). D) $ 300 (loss). E) $ 295.05 (loss). Answer: E Difficulty: Hard

[QUESTION]REFER TO: Ref. 09_0313. Assuming a forward contract was entered into on December 16, what would be the net impact on Car Corp.'s 2009 income statement related to this transaction? A) $ 500 (gain). B) $ 100 (loss). C) $ 200 (gain). D) $ 200 (loss). E) $0.Answer: A Difficulty: Hard [QUESTION]14. Mills Inc. had a receivable from a foreign customer that is due in the local currency of the customer (stickles). On December 31, 2008, this receivable for §200,000 was correctly included in Mills' balance sheet at $132,000. When the receivable was collected on February 15, 2009, the U.S. dollar equivalent was $144,000. In Mills' 2009 consolidated income statement, how much should have been reported as a

Forward Spot Rate Date Rate To Jan. 15 December 16, 2008 $ .00090 $ .00098 December 31, 2008 .00092 .00093 January 15, 2009 .00095 .00095


foreign exchange gain? A) $0.B) $36,000.C) $48,000.D) $10,000.E) $12,000.Answer: E Difficulty: Easy

[QUESTION]15. A spot rate may be defined as A) The price a foreign currency can be purchased or sold today. B) The price today at which a foreign currency can be purchased or sold in the future. C) The forecasted future value of a foreign currency. D) The U.S. dollar value of a foreign currency. E) The Euro value of a foreign currency. Answer: A Difficulty: Easy [QUESTION]

16. The forward rate may be defined as A) The price a foreign currency can be purchased or sold today. B) The price today at which a foreign currency can be purchased or sold in the future. C) The forecasted future value of a foreign currency. D) The U.S. dollar value of a foreign currency. E) The Euro value of a foreign currency. Answer: B Difficulty: Easy [QUESTION]17. Which statement is true regarding a foreign currency option? A) A foreign currency option gives the holder the obligation to buy or sell foreign currency in the future. B) A foreign currency option gives the holder the obligation only sell foreign currency in the future. C) A foreign currency option gives the holder the obligation to only buy foreign currency in the future. D) A foreign currency option gives the holder the right but not the obligation to buy or sell foreign currency in the future. E) A foreign currency option gives the holder the obligation to buy or sell foreign currency in the future at the spot rate. Answer: D Difficulty: Medium [QUESTION]18. A U.S. company sells merchandise to a foreign company denominated in U.S. dollars. Which of the following statements is true? A) If the foreign currency appreciates, a foreign exchange gain will result. B) If the foreign currency depreciates, a foreign exchange gain will result. C) No foreign exchange gain or loss will result. D) If the foreign currency appreciates, a foreign exchange loss will result. E) If the foreign currency depreciates, a foreign exchange loss will result. Answer: C


Difficulty: Easy [QUESTION]19. A U.S. company sells merchandise to a foreign company denominated in the foreign currency. Which of the following statements is true? A) If the foreign currency appreciates, a foreign exchange gain will result. B) If the foreign currency depreciates, a foreign exchange gain will result. C) No foreign exchange gain or loss will result. D) If the foreign currency appreciates, a foreign exchange loss will result. E) Any gain or loss will be included in comprehensive income. Answer: A Difficulty: Medium

[QUESTION]20. A U.S. company buys merchandise from a foreign company denominated in U.S. dollars. Which of the following statements is true? A) If the foreign currency appreciates, a foreign exchange gain will result. B) If the foreign currency depreciates, a foreign exchange gain will result. C) No foreign exchange gain or loss will result. D) If the foreign currency appreciates, a foreign exchange loss will result. E) Any gain or loss will be included in comprehensive income. Answer: C Difficulty: Medium [QUESTION]21. A U.S. company buys merchandise from a foreign company denominated in the foreign currency. Which of the following statements is true? A) If the foreign currency appreciates, a foreign exchange gain will result. B) If the foreign currency depreciates, a foreign exchange loss will result. C) No foreign exchange gain or loss will result. D) If the foreign currency appreciates, a foreign exchange loss will result. E) Any gain or loss will be included in comprehensive income. Answer: D Difficulty: Medium [QUESTION]22. SFAS 133 provides guidance for hedges of all the following sources of foreign exchange risk except A) Recognized foreign currency denominated assets and liabilities. B) Unrecognized foreign currency firm commitments. C) Forecasted foreign currency denominated transactions. D) Net investment in foreign operations. E) Deferred foreign currency gains and losses. Answer: E Difficulty: Medium

[QUESTION]23. All of the following data may be needed to determine the fair value of a forward contract at any point in time except A) The forward rate when the forward contract was entered into. B) The current forward rate for a contract that matures on the same date as the forward contract entered into.


C) The future spot rate. D) A discount rate. E) The company's incremental borrowing rate. Answer: C Difficulty: Hard [QUESTION]24. A forward contract may be used for which of the following? 1) A fair value hedge of an asset. 2) A cash flow hedge of an asset. 3) A fair value hedge of a liability. 4) A cash flow hedge of a liability. A) 1 and 3B) 2 and 4C) 1 and 2D) 1, 3, and 4E) 1, 2, 3, and 4Answer: E Difficulty: Easy

[QUESTION]25. A company has a discount on a forward contract for an asset. How is the discount recognized over the life of the contract? A) It is charged to a deferred credit. B) It is charged to a deferred asset. C) It is charged to accumulated other comprehensive income. D) It increases sales. E) It decreases sales. Answer: C Difficulty: Medium

[QUESTION]26. A speculative derivative would be similar to which type of hedge? A) An option designated as a cash flow hedge. B) An option designated as a fair value hedge. C) A forward contract designated as a cash flow hedge. D) A forward contract designated as a fair value hedge. E) A speculative option not designated.. Answer: B Difficulty: Hard

[QUESTION]27. Which of the following statements is true concerning hedge accounting? A) Hedges of foreign currency firm commitments are used for future sales only. B) Hedges of foreign currency firm commitments are used for future purchases only. C) Hedges of foreign currency firm commitments are used for current purchases or sales. D) Hedges of foreign currency firm commitments are used for future sales or purchases. E) Hedges of foreign currency firm commitments are speculative in nature. Answer: D Difficulty: Medium


[QUESTION]28. All of the following hedges are used for future purchase/sale transactions except A) Forward contracts used as a fair value hedge of a firm commitment. B) Options used as a fair value hedge of a firm commitment. C) Hedge of a foreign currency denominated asset. D) Forward cash flow hedges of a forecasted transaction. E) Forward contracts used to hedge a foreign currency denominated liability. Answer: E Difficulty: Medium REFERENCE: Ref. 09_04On December 1, 2007, Keenan Company, a U.S. firm, sold merchandise to Velez Company of Spain for 150,000 euro. Payment is due on February 1, 2008. Keenan entered into a forward exchange contract on December 1, 2007, to deliver 150,000 euro on February 1, 2008 for $.97. Keenan chose to use a foreign currency option to hedge this foreign currency asset designated as a cash flow hedge. Relevant exchange rates follow:

[QUESTION]REFER TO: 09_0429. Compute the value of the foreign currency option at December 1, 2007. A) $6,000. B) $4,500. C) $3,000. D) $7,500. E) $1,500. Answer: D Difficulty: Medium

[QUESTION]REFER TO: 09_0430. Compute the value of the foreign currency option at December 31, 2007. A) $6,000. B) $4,500. C) $3,000. D) $7,500. E) $1,500. Answer: A Difficulty: Medium

[QUESTION]REFER TO: 09_0431. Compute the value of the foreign currency option at February 1, 2008. A) $6,000. B) $4,500.


C) $3,000. D) $7,500. E) $1,500. Answer: B Difficulty: Medium

[QUESTION]REFER TO: 09_0432. Compute the U.S. dollars received on February 1, 2008. A) $138,000. B) $136,500. C) $145,500. D) $141,000 E) $142,500. Answer: C Difficulty: Medium [QUESTION]33. Which of the following approaches is used in the United States in accounting for foreign currency transactions?A) One-transaction perspective; defer foreign exchange gains and losses.B) Two-transaction perspective; accrue foreign exchange gains and losses.C) Three-transaction perspective; defer foreign exchange gains and losses.D) One-transaction perspective; accrue foreign exchange gains and losses.E) Two-transaction perspective; defer foreign exchange gains and losses.Answer: BDifficulty: Easy

[QUESTION]34. When a U.S. company purchases parts from a foreign company, which of the following will result in no foreign exchange gain or loss?A) The transaction is denominated in U.S. dollars.B) The transaction resulted in an extraordinary gain.C) The transaction resulted in an extraordinary loss.D) The foreign currency appreciated in value relative to the U.S. dollar.E) The foreign currency depreciated in value relative to the U.S. dollar.Answer: ADifficulty: Easy

[QUESTION]35. Alpha, Inc., a U.S. company, had a receivable from a customer that was denominated in pesos. On December 31, 2008, this receivable for 75,000 pesos was correctly included in Alpha’s balance sheet at $8,000. The receivable was collected on March 2, 2009, when the U.S. equivalent was $6,900. How much foreign exchange gain or loss will Alpha record on the income statement for the year ended December 31, 2009?A) $1,100 loss.B) $1,100 gain.C) $6,900 loss.D) $6,900 gain.E)$8,000 gain.Answer: A


Difficulty: Easy

REFERENCE: Ref. 09_05On April 1, 2007, Shannon Company, a U.S. company, borrowed 100,000 euros from a foreign lender by signing an interest-bearing note due April 1, 2008. The dollar value of the loan was as follows:

[QUESTION]REFER TO: 09_0536. How much foreign exchange gain or loss should be included in Shannon’s 2007 income statement?A) $3,000 gain.B) $3,000 loss.C) $6,000 gain.D) $6,000 loss.E) $7,000 gain.Answer: DDifficulty: Medium

[QUESTION]REFER TO: 09_0537. How much foreign exchange gain or loss should be included in Shannon’s 2008 income statement?A) $1,000 gain.B) $1,000 loss.C) $2,000 gain.D) $2,000 loss.E) $8,000 loss.Answer: DDifficulty: Medium

[QUESTION]REFER TO: 09_0538. Angela, Inc., a U.S. company, had a euro receivable from exports to Spain and a British pound payable resulting from imports from England. Angela recorded foreign exchange gain related to both its euro receivable and pound payable. Did the foreign currencies increase or decrease in dollar value from the date of the transaction to the settlement date?

A) A aboveB) B aboveC) C above


D) D aboveE) E aboveAnswer: BDifficulty: Medium

[QUESTION]39. Frankfurter Company, a U.S. company, had a ruble receivable from exports to Russia and a euro payable resulting from imports from Italy. Frankfurter recorded foreign exchange loss related to both its ruble receivable and euro payable. Did the foreign currencies increase or decrease in dollar value from the date of the transaction to the settlement date?

A) A aboveB) B aboveC) C aboveD) D aboveE) E aboveAnswer: CDifficulty: Medium

REFERENCE: Ref. 09_06Parker Corp., a U.S. company, had the following foreign currency transactions during 2009:(1.) Purchased merchandise from a foreign supplier on July 5, 2009 for the U.S. dollar equivalent of $80,000 and paid the invoice on August 3, 2009 at the U.S. dollar equivalent of $82,000.(2.) On October 1, 2009 borrowed the U.S. dollar equivalent of $872,000 evidenced by a non-interest-bearing note payable in euros on October 1, 2009. The U.S. dollar equivalent of the note amount was $860,000 on December 31, 2009, and $881,000 on October 1, 2010.

[QUESTION]REFER TO: 09_0640. What amount should be included as a foreign exchange gain or loss from the two transactions for 2009?A) $2,000 loss.B) $2,000 gain.C) $10,000 gain.D) $14,000 loss.E) $ 14,000 gain.Answer: CDifficulty: Medium

[QUESTION]REFER TO: 09_0641. What amount should be included as a foreign exchange gain or loss from the two transactions for 2010?A) $9,000 loss.


B) $9,000 gain.C) $11,000 loss.D) $21,000 loss.E) $21,000 gain.Answer: DDifficulty: Easy

REFERENCE: Ref. 09_07Winston Corp., a U.S. company, had the following foreign currency transactions during 2008:(1.) Purchased merchandise from a foreign supplier on July 16, 2008 for the U.S. dollar equivalent of $47,000 and paid the invoice on August 3, 2008 at the U.S. dollar equivalent of $54,000.(2.) On October 15, 2008 borrowed the U.S. dollar equivalent of $315,000 evidenced by a non-interest-bearing note payable in euros on October 15, 2008. The U.S. dollar equivalent of the note amount was $295,000 on December 31, 2008, and $299,000 on October 15, 2009.

[QUESTION]REFER TO: 09_0742. What amount should be included as a foreign exchange gain or loss from the two transactions for 2008?A) $9,000 loss.B) $9,000 gain.C) $11,000 loss.D) $13,000 gain.E) $ 14,000 gain.Answer: DDifficulty: Medium

[QUESTION]REFER TO: 09_0743. What amount should be included as a foreign exchange gain or loss from the two transactions for 2009?A) $1,000 loss.B) $1,000 gain.C) $2,000 loss.D) $4,000 gain.E) $4,000 loss.Answer: EDifficulty: Easy

[QUESTION]44. Williams, Inc., a U.S. company, has a Japanese yen account receivable resulting from an export sale on March 1 to a customer in Japan. The exporter signed a forward contract on March 1 to sell yen and designated it as a cash flow hedge of a recognized receivable. The spot rate was $.0094, and the forward rate was $.0095. Which of the following did the U.S. exporter report in net income?A) Discount revenue.B) Premium revenue.C) Discount expense.D) Premium expense.E) Both a discount revenue and a premium expense.Answer: BDifficulty: Medium


[QUESTION]45. Larson Company, a U.S. company, has an India rupee account receivable resulting from an export sale on September 7 to a customer in India. Larson signed a forward contract on September 7 to sell rupees and designated it as a cash flow hedge of a recognized receivable. The spot rate was $.023, and the forward rate was $.021. Which of the following did the U.S. exporter report in net income?A) Discount revenue.B) Premium revenue.C) Discount expense.D) Premium expense.E) Both a discount revenue and a premium expense.Answer: BDifficulty: Medium

[QUESTION]46. Primo Inc., a U.S. company, ordered parts costing 100,000 rupee from a foreign supplier on July 7 when the spot rate was $.025 per rupee. A one-month forward contract was signed on that date to purchase 100,000 rupee at a rate of $.027. The forward contract is properly designated as a fair value hedge of the 100,000 rupee firm commitment. On August 7, when the parts are received, the spot rate is $.028. At what amount should the parts inventory be carried on Primo’s books?A) $2,000.B) $2,100.C) $2,500.D) $2,700.E) $2,800.Answer: EDifficulty: Medium

[QUESTION]47. Lawrence Company, a U.S. company, ordered parts costing 1,000,000 Thailand bahts from a foreign supplier on July 7 when the spot rate was $.025 per baht. A one-month forward contract was signed on that date to purchase 1,000,000 bahts at a rate of $.027. The forward contract is properly designated as a fair value hedge of the 1,000,000 baht firm commitment. On August 7, when the parts are received, the spot rate is $.028. What is the amount of accounts payable that will be paid at this date?A) $20,000.B) $20,100.C) $25,000.D) $27,000.E) $28,000.Answer: EDifficulty: Medium

[QUESTION]48. On December 1, 2009, Joseph Company, a U.S. company, entered into a three-month forward contract to purchase 50,000 pesos on March 1, 2010. The following U.S. dollar per peso exchange rates apply:

Forward RateDate Spot Rate (Mar.1, 2010)December 1,2009 $0.092 $0.105


December 31,2009 $0.090 $0.095March 1, 2010 $0.089 N/A

Joseph’s incremental borrowing rate is 12 percent. The present value factor for two months at an annual interest rate of 12 percent is .9803. Which of the following is included in Joseph’s December 31, 2009 balance sheet for the forward contract?A) $5,146.58 asset.B) $5,146.58 liability.C) $500 liability.D) $490.15 asset. E) $490.15 liability.Answer: EDifficulty: Medium

[QUESTION]49. On April 1, Quality Corporation, a U.S. company, expects to order merchandise from a German supplier in three months, denominating the transaction in euros. On April 1, the spot rate is $1.19 per euro, and Quality enters into a three-month forward contract to purchase 400,000 euros at a rate of $1.20. At the end of three months, the spot rate is $1.21 per euro, and Quality orders and receives the merchandise, paying 400,000 euros. What are the effects on net income from these transactions?

A) $4,000 Discount Expense plus a $4,000 negative Adjustment to Net Income when the merchandise is received.B) $ 4,000 Discount Expense plus an $8,000 negative Adjustment to Net Income when the merchandise is received.C) $ 4,000 Premium Expense plus a $4,000 negative Adjustment to Net Income when the merchandise is received.D) $ 8,000 Premium Expense plus a $4,000 positive Adjustment to Net Income when the merchandise is received.E) $ 8,000 Discount Expense plus an $8,000 positive Adjustment to Net Income when the merchandise is received.Answer: CDifficulty: Hard

[QUESTION]50. On August 31, Ram Corporation, a U.S. company, expects to order merchandise from a German supplier in three months, denominating the transaction in euros. On August 31, the spot rate is $1.19 per euro, and Quality enters into a three-month forward contract to purchase 600,000 euros at a rate of $1.20. At the end of three months, the spot rate is $1.21 per euro, and Ram orders and receives the merchandise, paying 600,000 euros. What are the effects on net income from these transactions?

A) $6,000 Discount Expense plus a $6,000 negative Adjustment to Net Income when the merchandise is sold.B) $ 6,000 Discount Expense plus a $12,000 negative Adjustment to Net Income when the merchandise is sold.C) $ 6,000 Premium Expense plus a $6,000 negative Adjustment to Net Income when the merchandise is sold.D) $ 12,000 Premium Expense plus a $6,000 positive Adjustment to Net Income when the merchandise is sold.E) $ 12,000 Discount Expense plus an $12,000 positive Adjustment to Net Income when the merchandise is sold.


Answer: CDifficulty: Hard

[QUESTION]51. Woolsey Corporation, a U.S. company, expects to order goods from a British supplier at a price of 250,000 pounds, with delivery and payment to be made on October 24. On July 24, Woolsey purchased a three-month call option for 250,000 British pounds and designated this option as a cash flow hedge of a forecasted foreign currency transaction. The following exchange rates apply:

What amount will Woolsey include as an option expense in net income during the period July 24 to October 24?A) $4,000.B) $5,000.C) $10,000.D) $12,000.E) $14,000.Answer: ADifficulty: Easy

[QUESTION]52. Atherton, Inc., a U.S. company, expects to order goods from a foreign supplier at a price of 100,000 lira, with delivery and payment to be made on April 17. On January 17, Atherton purchased a three-month call option on 100,000 lira and designated this option as a cash flow hedge of a forecasted foreign currency transaction. The following exchange rates apply:

What amount will Atherton include as an option expense in net income during the period January 17 to April 17?A) $4,000B) $4,260C) $4,340D) $5,000E) $5,260Answer: DDifficulty: Easy

REFERENCE: Ref. 09_08


On May 1, 2007, Mosby Company received an order to sell a machine to a customer in Canada at a price of 2,000,000 Mexican pesos. The machine was shipped and payment was received on March 1, 2008. On May 1, 2007, Mosby purchased a put option giving it the right to sell 2,000,000 pesos on March 1, 2008 at a price of $190,000. Mosby properly designates the option as a fair value hedge of the peso firm commitment. The option cost $3,000 and had a fair value of $3,200 on December 31, 2007. The following spot exchange rates apply:

Mosby’s incremental borrowing rate is 12 percent, and the present value factor for two months at a 12 percent annual rate is .9803.

[QUESTION]REFER TO: Ref. 09_0853. What was the net impact on Mosby’s 2007 income as a result of this fair value hedge of a firm commitment?A) $1,760.60 decrease.B) $1,960.60 decrease.C) $1,000.00 decrease.D) $1,760.60 increase.E) $1,960.60 increase.Answer: ADifficulty: Hard

[QUESTION]REFER TO: Ref. 09_0854. What was the net impact on Mosby’s 2008 income as a result of this fair value hedge of a firm commitment?A) $1,760.60 decrease.B) $2,500 increase.C) $2,500 decrease.D) $188,760.60 increase.E) $188,760.60 decrease.Answer: DDifficulty: Hard

[QUESTION]REFER TO: Ref. 09_0855. What was the net increase or decrease in cash flow from having purchased the foreign currency option to hedge this exposure to foreign exchange risk?A) $0B) $9,000 decrease.C) $9,000 increase.D) $2,000 increase.E) $2,000 decrease.Answer: C


Difficulty: Hard

REFERENCE: Ref. 09_09On March 1, 2007, Mattie Company received an order to sell a machine to a customer in England at a price of 200,000 British pounds. The machine was shipped and payment was received on March 1, 2008. On March 1, 2007, Mattie purchased a put option giving it the right to sell 200,000 British pounds on March 1, 2008 at a price of $380,000. Mattie properly designates the option as a fair hedge of the pound firm commitment. The option cost $2,000 and had a fair value of $2,200 on December 31, 2007. The following spot exchange rates apply:

Mattie’s incremental borrowing rate is 12 percent, and the present value factor for two months at a 12 percent annual rate is .9803.

[QUESTION]REFER TO: Ref. 09_0956. What was the net impact on Mattie’s 2007 income as a result of this fair value hedge of a firm commitment?A) $1,660.40 decrease.B) $1,760.60 decrease.C) $2,240.40 decrease.D) $1,660.40 increase.E) $2,240.60 increase.Answer: B Difficulty: Hard

[QUESTION]REFER TO: Ref. 09_0957. What was the net impact on Mattie’s 2008 income as a result of this fair value hedge of a firm commitment?A) $379,760.60 decrease.B) $8,360.60 increase.C) $8,360.60 decrease.D) $ 4,390.40 decrease.E) $379,760.60 increase.Answer: EDifficulty: Hard

[QUESTION]REFER TO: Ref. 09_0958. What was the net increase or decrease in cash flow from having purchased the foreign currency option to hedge this exposure to foreign exchange risk?A) $0B) $10,000 increase.C) $10,000 decrease.


D) $20,000 increase.E) $20,000 decrease.Answer: BDifficulty: Hard

REFERENCE: Ref. 09_10On October 1, 2007, Eagle Company forecasts the purchase of inventory from a British supplier on February 1, 2008, at a price of 100,000 British pounds. On October 1, 2007, Eagle pays $1,800 for a three-month call option on 100,000 pounds with a strike price of $2.00 per pound. The option is considered to be a cash flow hedge of a forecasted foreign currency transaction. On December 31, 2007, the option has a fair value of $1,600. The following spot exchange rates apply:

[QUESTION]REFER TO: Ref. 09_1059. What journal entry should Eagle prepare on October 1, 2007?A) Cash 1,800

Foreign Currency Option 1,800B) Forward Contract 1,800

Cash 1,800C) Foreign Currency Option 1,800

Gain on Foreign Currency 1,800D) Loss on Foreign Currency 1,800

Cash 1,800E) Foreign Currency Option 1,800

Cash 1,800

A) A above.B) B above.C) C above.D) D above.E) E above.Answer: EDifficulty: Medium

[QUESTION]REFER TO: Ref. 09_1060. What journal entry should Eagle prepare on December 31, 2007?

A) Foreign Currency Option 200Cash 200

B) Foreign Currency Option 200Option Revenue 200

C) Foreign Currency Option 400


Option Revenue 400D) Option Expense 200

Foreign Currency Option 200E) Option Expense 400

Foreign Currency Option 400

A) A above.B) B above.C) C above.D) D above.E) E above.Answer: DDifficulty: Medium

[QUESTION]REFER TO: Ref. 09_1061. What is the amount of option expense for 2008 from these transactions?A) $1,000.B) $1,600.C) $2,500.D) $2,600.E) $0.Answer: BDifficulty: Medium

[QUESTION]REFER TO: Ref. 09_1062. What is the amount of Adjustment to Accumulated Other Comprehensive Income for 2008 from these transactions?A) $1,000.B) $1,600.C) $1,800.D) $2,000.E) $2,600.Answer: ADifficulty: Medium

[QUESTION]REFER TO: Ref. 09_1063. What is the amount of Cost of Goods Sold for 2008 as a result of these transactions?A) $200,000.B) $195,000.C) $201,000.D) $202,600.E) $203,000.Answer: CDifficulty: Medium

[QUESTION]REFER TO: Ref. 09_10


64. What is the 2008 effect on net income as a result of these transactions?A) $195,000B) $201,600C) $201,000D) $202,600E) $203,000Answer: BDifficulty: Hard

Essay

[QUESTION]65. Yelton Co. just sold inventory for 80,000 lira, which Yelton will collect in sixty days. Briefly describe a hedging transaction Yelton could engage in to reduce its risk of unfavorable exchange rates. Answer: Yelton could sign a forward exchange contract to sell the lira in 60 days after they are received. Alternatively, Yelton could purchase an option to sell the lira in 60 days after they are received. Difficulty: Easy

[QUESTION]66. Where can you find exchange rates between the U.S. dollar and most foreign currencies? Answer: Foreign exchange rates are published in the Wall Street Journal, major U.S. newspapers, and several Internet sites. Difficulty: Easy [QUESTION]67. What is meant by the spot rate? Answer: The spot rate is the price at which a foreign currency can be purchased or sold today. Difficulty: Easy [QUESTION]68. How is the fair value of a Forward Contract determined under SFAS 133? Answer: The fair value of a Forward Contract is determined by comparing the difference between the contracted forward rate and the currently available forward rate for contracts expiring on the same date. On the initial date of the contract, this would result in a fair value of $0. As time passes, the currently available forward rate will likely fluctuate relative to the “fixed” contracted forward rate, creating a difference that must be accounted for as a gain or loss on the forward contract. A contract with a net gain over its life is recorded on the balance sheet as a Forward Contract Asset. A contract with a net loss over its life is recorded on the balance sheet as a Forward Contract Liability. Difficulty: Medium [QUESTION]69. What is the major assumption underlying the one-transaction perspective? Answer: The one-transaction perspective assumes that an export sale is not complete until the foreign currency receivable has been collected and converted into U.S. dollars. Difficulty: Easy

[QUESTION]70. What is meant by the term hedging?Answer: “Hedging is the process of eliminating exposure to foreign exchange risk so as to avoid potential losses from fluctuations in exchange rates. In addition to avoiding possible losses, companies hedge foreign currency transactions and commitments to introduce an element of certainty into the future cash


flows resulting from foreign currency activities. Hedging involves establishing a price today at which foreign currency can be sold or purchased at a future date.”Difficulty: Medium

[QUESTION]71. How does a foreign currency forward contract differ from a foreign currency option?Answer: “Whereas the owner of a foreign currency option can choose whether to exercise the option and exchange one currency for another or not, a party to a foreign currency forward contract is obligated to deliver one currency in exchange for another at a specified future date.”Difficulty: Medium

[QUESTION]72. What factors create a foreign exchange gain?Answer: “Foreign exchange gains and losses are created by two factors: having foreign currency exposures (foreign currency receivables and payables) and changes in exchange rates.”Difficulty: Medium

[QUESTION]73. What happens when a U.S. company purchases goods denominated in a foreign currency and the foreign currency depreciates?Answer: The event results in a foreign exchange gain. Difficulty: Medium

[QUESTION]74. What happens when a U.S. company purchases goods denominated in a foreign currency and the foreign currency appreciates?Answer: The event results in a foreign exchange loss. Difficulty: Medium

[QUESTION]75. What happens when a U.S. company sells goods denominated in a foreign currency and the foreign currency depreciates?Answer: The event results in a foreign exchange loss. Difficulty: Medium

[QUESTION]76. What happens when a U.S. company sells goods denominated in a foreign currency and the foreign currency appreciates?Answer: The event results in a foreign exchange gain. Difficulty: Medium

[QUESTION]77. Gaw Produce Co. purchased inventory from a Japanese company on December 18, 2009. Payment of ¥400,000 was due on January 18, 2010. Exchange rates between the dollar and the yen were as follows:


Required:Prepare all journal entries for Gaw Produce Co. in connection with the purchase and payment. Answer:

2009Dec.

18Purchases (¥4,000,000 x ($1 ÷ ¥125) 3,200.0

0 Accounts Payable 3,200.

00

31 Foreign Exchange Loss 78.68 Accounts Payable 78,.68 (¥4,000,000 x ($1 ÷ ¥125) - (¥4,000,000 x ($1 ÷ ¥122)

2010Jan.1

8Foreign Exchange Loss 54.64

Accounts Payable 54.64 (¥4,000,000 x ($1 ÷ ¥122) - (¥4,000,000 x ($1 ÷ ¥120)

18 Accounts Payable 3,333.33

Cash (¥4,000,000 x ($1 ÷ ¥120) 3,333.33

Difficulty: Medium

[QUESTION]78. Old Colonial Corp. (a U.S. company) made a sale to a foreign customer on September 15, 2009, for 100,000 stickles. Payment was received on October 15, 2009. The following exchange rates applied:

Exchange

Date RateSeptember 15, 2009

§1 = $.48

September 30,2009

§1 = $.50

October 15, 2009

§1 = $.44

Exchange Date Rate December 18, 2009 $1 = ¥125 December 31, 2009 $1 = ¥122 January 18, 2010 $1 = ¥120


Required:Prepare all journal entries for Old Colonial Corp. in connection with this sale assuming that the company closes its books on September 30 to prepare interim financial statements. Answer:

2009Sept.

15Accounts Receivable (§100,000 x $.48) 48,000

Sales 48,000

30 Accounts Receivable 2,000 Foreign Exchange Gain 2,000 (§100,000 x ($.50 - $.48)

Oct. 15

Foreign Exchange Loss 6,000

Accounts Receivable 6,000 (§100,000 x ($.50 - $.44)

Oct. 15

Cash (§100,000 x ($.50 - $.44) 44,000

Accounts Receivable 44,000

Difficulty: Medium

REFERENCE: Ref. 09_11Coyote Corp. (a U.S. company in Texas) had the following series of transactions in a foreign country during 2009. The appropriate exchange rates during 2009 were as follows:

The appropriate exchange rates during 2009 were as follows:

ExchangeDate Rate

March 1, 2009 $.20 = 1 peso

May 1, 2009 $.22 = 1 peso

August 1, 2009 $.23 = 1 peso

September 1,2009

$.24 = 1 peso

December 31, 2009

$.25 = 1 peso


[QUESTION]REFER TO: Ref. 09_1179. Prepare all journal entries in U.S. dollars along with any December 31, 2009 adjusting entries. Coyote uses a perpetual inventory system.Answer:

2009March 1 Inventory (20,000p x $.20) 12,000

Accounts Payable 12,000

May 1 Accounts Receivable (54,000p x $.22) 11,880 Sales 11,880

August 1

Cash (48,000p x $.23) 11,040

Accounts Receivable (48,000p x $.22) 10,560 Foreign Exchange Gain 480

Cost of Goods Sold (36,000 x $.20) 7,200 Inventory 7,200

Sept. 1 Accounts Payable (36,000p x $.20) 7,200Foreign Exchange Loss 1,440 Cash (36,000 x $.24) 8,640

Dec. 31 Foreign Exchange Loss [24,000 x ($.20 - $.25)] 1,200 Accounts Payable 1,200

Dec. 31 Accounts Receivable 180 Foreign Exchange Gain [6,000 x ($.22 - $.25)]

180

Difficulty: Medium

REFERENCE: Ref. 09_11

[QUESTION]REFER TO: Ref. 09_1180. What amount will Coyote Corp. report on its 2009 financial statements for Inventory? Answer: Inventory (60,000 pesos x $.20 x 40%): $ 4,800 Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_1181. What amount will Coyote Corp. report on its 2009 financial statements for Cost of Goods Sold? Answer: Cost of Goods Sold (60,000 pesos x $.20 x 60%): $ 7,200


Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_1182. What amount will Coyote Corp. report on its 2009 financial statements for Sales? Answer: Sales (54,000 pesos x $.22): $11,880 Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_1183. What amount will Coyote Corp. report on its 2009 financial statements for Accounts Receivable? Answer: Accounts Receivable ((54,000–48,000 pesos) x $.25): $ 1,500 Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_1184. What amount will Coyote Corp. report on its 2009 financial statements for Accounts Payable? Answer: Accounts Payable ((60,000–36,000 pesos) x $.25): $ 6,000 Difficulty: Medium

[QUESTION]REFER TO: Ref. 09_1185. The beginning balance of cash was 50,000 pesos on January 1, 2009, translated at $.18 = $1. What amount will Coyote Corp. report on its 2009 financial statements for Cash? Answer: Cash (50,000pesos x $.18) + (48,000 pesos x $.23) – (36,000 pesos x $.24)): $ 2,400 Difficulty: Medium

REFERENCE: Ref. 09_12On November 10, 2008, King Co. sold inventory to a customer in a foreign country. King agreed to accept 96,000 local currency units (LCU) in full payment for this inventory. Payment was to be made on February 1, 2009. On December 1, 2008, King entered into a forward exchange contract wherein 96,000 LCU would be delivered to a currency broker in two months. The two month forward exchange rate on that date was 1 LCU = $.30. The spot rates and forward rates on various dates were as follows:

Date Rate Description Exchange Rate

November 10, 2008

Spot Rate $.35 = 1 LCU

December 1, 2008


2-Month Forward Rate

$.30 = 1 LCU

December 31, 2008


1-Month Forward $.28 = 1 LCU


RateFebruary 1, 2009


The company's borrowing rate is 12%. The present value factor for one month is .9901.

[QUESTION]REFER TO: Ref. 09_1286. (A.) Assume this hedge is designated as a cash flow hedge. Prepare the journal entries relating to the transaction and the forward contract. (B.) Compute the effect on 2008 net income. (C.) Compute the effect on 2009 net income. Answer: Date Spot Value Change Forward Change11/10/

08$.35 $33,60

012/01/

08$.32 $30,72

0$.30

12/31/08

$.29 $27,840

-$5,760 $.28 +$1,9011

02/01/09

$.27 $25,920

-$1,920 $.27 +$ 9792

1 [(.30 - .28) 96,000] x .9901 = 1,901 2 [(.30 - .27) 96,000] = 2,880 – 1,901 = 979

A. 11/10/08

Accounts receivable 33,600

Sales 33,600

12/01/08

No entry

12/31/08


Accounts receivable 5,760AOCI 5,760 Gain on Forward Contract 5,760Forward Contract 1,901 AOCI 1,901Discount expense 9763

AOCI 9763[1-(28,800/30,720)1/2 x 30,720

02/01/09


Accounts receivable 1,920AOCI 1,920 Gain on Forward Contract 1,920Forward contract 979


AOCI 979Discount expense 9444

AOCI 9444(.32 - .30) x 96,000 = 1,920 -976 = 944

Foreign currency 25,920 Accounts receivable 25,920Cash 28,800 Forward contract 2,880 Foreign currency 25,920

Difficulty: Hard

[QUESTION]REFER TO: Ref. 09_1287. (A.) Assume this hedge is designated as a fair value hedge. Prepare the journal entries relating to the transaction and the forward contract. (B.) Compute the effect on 2008 net income. (C.) Compute the effect on 2009 net income. Answer: A. 11/10/

08Accounts receivable 33,600

Sales 33,600

12/01/08

No entry

12/31/08


Accounts receivable 5,760Forward Contract 1,901 Gain on Forward Contract 1,901

02/01/09


Accounts receivable 1,901


Forward contract 1,920 Gain on Forward Contract 1,920

Foreign currency 25,920 Accounts receivable 25,920Cash 28,800 Forward contract 2,880 Foreign currency 25,920

Difficulty: Hard

REFERENCE: Ref. 09_13On October 1, 2009, a forward exchange contract was acquired whereby Jarvis Co. was to pay 100,000 LCU in four months (on February 1, 2010) and receive $78,000 in U.S. dollars. The spot and forward rates for the LCU were as follows:

Date Rate Description Exchange Rate

October 1, 2009 Spot Rate $.83= 1 LCUDecember 31, 2009


1-Month Forward Rate

$.80 = 1 LCU

February 1, 2010


The company's borrowing rate is 12%. The present value factor for one month is .9901.

[QUESTION]REFER TO: Ref. 09_1388. Assuming this is a cash flow hedge, prepare journal entries for this sales transaction and forward contract. Answer:


Difficulty: Hard

[QUESTION]REFER TO: Ref. 09_1389. Assuming this is a fair value hedge, prepare journal entries for this sales transaction and forward contract. Answer:

Date Spot Value Change Forward Adjustment 10/1/09 $.83 $83,000 $.78 12/31/09 $.85 $85,000 +$2,000 $.80 -$1,980 1

2/1/10 $.86 $86,000 +$1,000 $.86 -$6,020 2

1 [(.80 - .78)100,000] = 2,000 x .9901 = 1,980 2 [(.78 - .86)100,000] = 8,000 – 1,980 = 6,020 10/1/09 Accounts receivable 83,000 Sales 83,000 12/31/09 Accounts receivable 2,000 Foreign Exchange Gain 2,000 Loss on Forward Contract 2,000 AOCI 2,000 AOCI 1,980 Forward contract 1,980 Discount expense 1,2793 AOCI 1,279

3 1-(78,000/83,000)1/4 = .0154 x 83,000 = 1,279

2/1/10 Accounts receivable 1,000 Foreign Exchange Gain 1,000 Loss on Forward Contract 1,000 AOCI 1,000 AOCI 6,020 Forward contract 6,020 Discount expense 3,7214 AOCI 3,721

4 (.83-.78)100,000=5,000-1,279 = 3,721

Foreign currency 86,000 Accounts receivable 86,000 Cash 78,000 Forward contract 8,000 Foreign currency 86,000


Difficulty: Hard

[QUESTION]REFER TO: Ref. 09_1390. On October 31, 2008, Darling Company negotiated a two-year 100,000 franc loan from a foreign bank at an interest rate of 3 percent per year. Interest payments are made annually on October 31, and the principal will be repaid on October 31, 2010. Darling prepares U.S.-dollar financial statements and has a December 31 year-end. Prepare all journal entries related to this foreign currency borrowing assuming the following:

Franc RateOctober 31, 2008 $0.500December 31, 2008 $0.525October 31, 2009 $0.600December 31, 2009 $0.625October 31, 2010 $0.750

Answer: In US dollars:

10/31/08 Cash 50,000 Note Payable (franc) [100,000 x $.500] 50,000(To record the note and conversion of 100,000 francs into $ at the spot rate

Date Spot Value Change Forward Adjustment 10/1/09 $.83 $83,000 $.78 12/31/09 $.85 $85,000 +$2,000 $.80 -$1,980 1

2/1/10 $.86 $86,000 +1,000 $.86 -$6,020 2

1 [(.80 - .78)100,000] x 2,000 x .9901 = 1,980 2 [(.78 - .86)100,000] = 8,000 – 1,980 = 6,020 10/1/09 Accounts receivable 83,000 Sales 83,000 12/31/09 Accounts receivable 2,000 Foreign Exchange Gain 2,000 Loss on Forward Contract 1,980 Forward contract 1,980 2/1/10 Accounts receivable 1,000

Foreign Exchange Gain 1,000 Loss on Forward Contract 6,020 Forward contract 6,020 Foreign currency 86,000 Accounts receivable 86,000 Cash 78,000 Forward contract 8,000 Foreign currency 86,000


12/31/08 Interest Expense 262 Interest Payable (franc) 262 [100,000 x 3% x 2/12 = 500 francs x $.525 spot rate](To accrue interest for the period 10/31 – 12/31/08.)

Foreign Exchange Loss 2,500 Note payable (franc) [100,000 x ($.525 – $.500)] 2,500(To revalue the note payable at the spot rate of $.525 and record a foreign exchange loss.)

10/31/09 Interest Expense [2,500 francs x $.600] 1,500Interest Payable (franc) 262Foreign Exchange Loss [500 francs x ($.600 – $.525)] 38 Cash [3,000 francs x $.600] 1,800(To record the first annual interest payment, record interest expense for the period 1/1 – 10/31/09, and record a foreign exchange loss on the interest payable accrued at 12/31/08.)

12/31/09 Interest Expense 312 Interest Payable (franc) [500 francs x $.625] 312(To accrue interest for the period 10/31 –12/31/09.)

Foreign Exchange Loss 10,000 Note Payable (franc) [100,000 x ($.625 – $.525)] 10,000(To revalue the note payable at the spot rate of $.625 and record a foreign exchange loss.)

10/31/10 Interest Expense [2,500 francs x $.750] $1,875Interest Payable (franc) 312Foreign Exchange Loss [500 francs x ($.750 – $.625)] 63 Cash [3,000 francs x $.750] $2,250(To record the second annual interest payment, record interest expense for the period 1/1 – 10/31/10, and record a foreign exchange loss on the interest payable accrued at 12/31/09.)

Note Payable (franc) $62,500Foreign Exchange Loss 12,500 Cash [100,000 francs x $.750] $75,000(To record payment of the 100,000 franc note.)

Difficulty: Hard

[QUESTION]91. For each of the following situations, select the best answer concerning accounting for foreign currency transactions:(A) Results in a foreign exchange gain.(B) Results in a foreign exchange loss.(C) No foreign exchange gain or loss.


_____1. Export sale by a U.S. company denominated in dollars, foreign currency of buyer appreciates._____2. Export sale by a U.S. company denominated in foreign currency, foreign currency of buyer appreciates._____3. Import purchase by a U.S. company denominated in foreign currency, foreign currency of buyer appreciates._____4. Import purchase by a U.S. company denominated in dollars, foreign currency of buyer appreciates._____5. Import purchase by a U.S. company denominated in foreign currency, foreign currency of buyer depreciates._____6. Import purchase by a U.S. company denominated in dollars, foreign currency of buyer depreciates._____7. Export sale by a U.S. company denominated in dollars, foreign currency of buyer depreciates._____8. Export sale by a U.S. company denominated in foreign currency, foreign currency of buyer depreciates.Answer: (1) C; (2) A; (3) B ; (4) C; (5) A; (6) C; (7) C; (8) BDifficulty: Hard

foreign currency transactions and hedging

Business