Question

Vino Veritas Company, a U.S.-based importer of wines and spirits, placed an order with a French supplier for 1,700 cases of wine at a price of 270 euros per case. The total purchase price is 459,000 euros. Relevant exchange rates for the euro are as follows:

Date	Spot Rate			Forward Rate to October 31			Call Option Premium for October 31 (strike price $1.35)
September 15	$	1.35		$	1.41		$	0.050
September 30		1.40			1.44			0.085
October 31		1.45			1.45			0.100

Vino Veritas Company has an incremental borrowing rate of 12 percent (1 percent per month) and closes the books and prepares financial statements at September 30.

D. The wine arrived on September 15, and the company made payment on October 31. On September 15, Vino Veritas purchased a 45-day call option for 459,000 euros. It properly designated the option as a cash flow hedge of a foreign currency payable. Prepare journal entries to account for the import purchase and foreign currency option.

1. record the purchase of wine from the french supplier 7. record the entry for changes in the exchange rate

2. record purchase of foreign currency option as an asset 8. record entry to adjust the fair value of the option

3. record the entry for changes in the exchange rate 9. record the gain or loss on the option

4.record entry to adjust for the fair value of the option 10. record option expense

5.record the gain or loss on the option 11. record settlement of forward contract

6.record option expense 12. record payment made to foreign supplier

E. The company ordered the wine on September 15. It arrived on October 31, and the company made payment on that date. On September 15, Vino Veritas purchased a 45-day call option for 459,000 euros. It properly designated the option as a fair value hedge of a foreign currency firm commitment. The fair value of the firm commitment is measured by referring to changes in the spot rate. Prepare journal entries to account for the foreign currency option, firm commitment, and import purchase.

1. record purchase of foreign currency option as an asset 5. record gain or loss on firm commitment

2. record gain or loss on foreign currency option 6. record settlement of forward contract

3. record gain or loss on firm commitment 7. record the receipt of goods and payment made

4. record gain or loss on foreign currency option 8. record entry to close the firm commitment

ACCOUNT TITLES

no journal entry required

accounts payable (euro)

accounts receivable (euro)

AOCI

adjustment to net income

cash

discount expense

equipment

firm commitment

foreign currency (euro)

foreign currency option

foreign exchange gain

foreign exchange loss

forward contract

gain on firm commitment

gain on foreign contract

gain on foreign currency option

gain on forward contract

interest expense

inventory

loss on firm commitment

loss on foreign contract

loss on foreign currency option

loss on forward contract

option expense

sales

Answer 1

Solution:-

Date	General Journal	Debit	Credit
09/15	Inventory	619,650
	Accounts payable (euro)		619,650
	(To record purchase of goods on account using the spot rate on September 15) (1.35 * 459000)
	Note: The accounts payable for the inventory purchase is recorded using the spot rate on the transaction date (on September 15)
09/15	No journal entry required
09/30	Foreign exchange loss	22,950
	Accounts payable (euro)		22,950
	(To record a loss on the liability denominated in foreign currency Current value of accounts payable (459,000 euros x $1.40) = $642,600 Less: Recorded value of accounts payable   =   $619,650 Adjustment needed to accounts payable $22,950 or [459,000 euros x ($1.40 - $1.35)] = $22,950
	Note: On September 30, 2015, the spot rate increases from $1.35 to $1.0 resulting in an increase of $22,950 to accounts payable. The spot rate is used for accounts payable since that is the amount needed to settle the liability.)
09/30	Forward contract	13,770
	Gain on forward contract		13,770
	(To record a gain on foreign currency to be received from exchange dealer [459,000 euros x ($1.44 - $1.41) = $13,770])
	Note: The value of the forward contract is determined using the change in the forward rates. The forward rate increased to $1.44 from $1.41. This results in an increase of $13,770 to the receivable from the exchange dealer.
10/31	Foreign exchange loss	22,950
	Accounts payable (euro)		22,950
	To record a loss from Sep 30, 2015 to Oct 31, 2015 on liability denominated in foreign currency. The current value of the payable $665,550, (459,000 euros x $1.45) less the recorded value of the payable on Sep 30 of 642,600
	Note: the spot rate increases to $1.45 from $1.40 resulting in an increase in accounts payable of $22,950 (($1.45-$1.40) x 459,000)
10/31	Forward contract	4,590
	Gain on forward contract		4,590
	To record a gain from Sep 30 to Oct 31 on foreign currency to be received from exchange dealer [(459000 euros x ($1.45 - $ 1.44) = $4,590].
	Note: On the settlement date, the forward rate on this date and the spot rate are identical, the change in the Oct 31 forward rate on December 31 to the spot rate on March 1 is $.01, or ($1.44 to $1.45)
10/31	Foreign currency (euro)	665,550
	Cash		647,190
	Forward contract		18,360
	To record payment to exchange dealer and receipt of 459,000 euros (459,000 euros x $1.45 = $665,550).
10/31	Accounts payable (euro)		665,550
	Foreign currency (euro)	665,500
	To record payment of liability upon transfer of 459,000 euros.

E)

Date	General Journal	Debit	Credit
09/15	No journal entry required	0	0
	(There would be a memorandum entry made on September 15  documenting the existence of the hedging relationship. The financial records would not otherwise be impacted as of this date because the foreign currency forward contract was at market rates)
09/15	No journal entry required
09/30	Forward contract	13,770
	Gain on forward contract		13,770
	(To record gain on foreign currency to be delivered to exchange dealer using the change in forward rates (459,000 euros x ($1.44-1.41)).
09/30	Loss on firm comittment	13,770
	Firm commitment		13,770
	(To record loss on firm commitment using the change                 using the change in the forward rate)
10/31	Forward contract	4,590
	Gain on forward contract		4,590
10/31	Loss on firm comittment	4,590
	Firm commitment		4,590
	(To record loss on firm commitment using the change                 using the change in the forward rate)
10/31	Foreign currency (euro)	665,550
	Cash		647,190
	Forward contract		18,360
	(to record payment)
10/31	Firm commitment	665,550
	Adjustment to net income		665,550
	(To record cost of equipment sold.)

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