Question

HD Company sells goods to a Spanish customer at a price of 1 million euros. HD shipped good to its customer on December 1, Year1. The payment was received on March 1, Year2. On December 1, Year1, HD signs a contract with First National Bank to deliver 1,000,000 euros in three months in exchange for $1,485,000

Date - spot rate - forward rate - Fair Value of Forward Contract

12/1/ Year1 $1.509 $1.485 ?

12/31/Year1 $1.485 $1.482 ?

3/1/Year2 $1.470 $1.470 ?

1. HD designates the forward contract as a cash flow hedge. What is the ending balance of accumulated other comprehensive income at the end of Year1?

2.HD designates the forward contract as a cash flow hedge. HD uses the straight-line method to allocate a portion of the forward contract discount. What is the net impact on Year 1 net income?

3. HD designates the forward contract as a cash flow hedge. What is the ending balance of accounts receivable at the end of Year1?

4. HD designates the forward contract as a cash flow hedge. What is the ending balance of accumulated other comprehensive income at the end of Year2?

5. HD designates the forward contract as a cash flow hedge. HD uses the straight-line method to allocate a portion of the forward contract discount. What is the net impact on Year 2 net income?

6. HD designates the forward contract as a fair value hedge. What is the net impact on Year 1 net income?

7. HD designates the forward contract as a fair value hedge. What is the net impact on Year 2 net income?

Answer 1

1. On 1st March Year 2 HD would receive $1,485,000 as per the contract with Bank Whereas in the Market spot rate is $1.470 for each euro i.e. $1,470,000. So accumulated Gain on cash flow hedge is $15,000 (1,485,000-1,470,000). Therefore ending balance of A.OCI is $15,000.

2. Discount on 1st December Year 1 is differnce of spot rate and forward rate = $1.509 - $1.485 = $0.024 for each Euro, So total discoun t would be $24,000. HD uses straight line method for discount allocation, so it will written off the balance in three months. So, net impact on Year 1 income is $8,000 (24000/3).

3. Account receivable balance at Year 1 would be $1,485,000