Question

On November 1, 2014, Moddel Company (a U.S. corporation) entered into a 90-day forward contract to purchase 200,000 British pounds. The purpose of the forward contract is to hedge a commitment to purchase special equipment on January 30, 2015 from a British firm Jeckyl, Inc. The invoice price on the purchase commitment is denominated in British pounds. The forward contract is not settled net. Assume Moddel uses a 12% interest rate. Use a fair value hedge.

The relevant exchange rates are stated in dollars per pound:

                                                                        Forward Rate
                                             Spot Rate         to Jan. 30, 2012
November 1, 2014                      $1.32                    $1.35
December 31, 2014                    $1.47                    $1.50
January 30, 2015                        $1.55                           -

Part 1:  What journal entry did Moddel record on November 1, 2014?

Part 2:  What journal entries did Moddel record on December 31, 2014?

Part 3:  What journal entries did Moddel record on January 30, 2015 if the purchase was made?

Answer 1

Part 1
Date	Account Titles and Explanation	Debit	Credit
11/01/14	Contract receivable (pounds)	270,000.00
	Contract payable (200,000 × $1.35)		270,000.00
Part 2
12/31/14	Contract receivable (pounds)	30,000.00
	Exchange gain 200,000 ×($1.50 - $1.35)		30,000.00
12/31/14	Exchange Loss	30,000.00
	Change in value of firm commitment in pounds 200,000 × ($1.50 - $1.35)		30,000.00
Part 3
1/30/15	Exchange Loss	10,000.00
	Change in value of firm commitment in pounds 200,000 × ($1.55 - $1.50)		10,000.00
	Contract receivable (pounds)	10,000.00
	Exchange gain 200,000 ×($1.55 - $1.50)		10,000.00
	Contract payable	270,000.00
	Cash		270,000.00
	Cash (pounds) (200,000 × $1.55)	310,000.00
	Contract receivable (pounds)		310,000.00
	Equipment	270,000.00
	Change in value of firm commitment in pounds	40,000.00
	Accounts payable (pounds)		310,000.00
	Accounts payable (pounds)	310,000.00
	Cash (Pounds)		310,000.00