advanced accounting test bank chapter 07 susan hamlen

the forward contract will be reported in other comprehensive income on the balance sheet in which one of the following situations?. Topic: Hedge of forecasted transactionLO 6 The forwar

TEST BANK CHAPTER 7 Foreign Currency Transactions and Hedging MULTIPLE CHOICE

1 Topic: Valuation of forward contracts

LO 3

A U.S company invests in a forward purchase contract for 100,000,000 yen with a

purchase price of $0.009/yen, for delivery in 45 days The spot rate at the time the

contract is initiated is $0.0085/yen At the end of the accounting year, the forward

contract is still outstanding The year-end spot rate is $0.0088/yen The year-end forwardrate for delivery at the contract date is $0.0092/yen How is the forward contract

reported on the U.S company’s balance sheet?

the forward contract will be reported in other comprehensive income on the balance sheet

in which one of the following situations?

a The U.S company has receivables denominated in euros, with payment to be

received on December 1

b The U.S company sold merchandise to a customer in Belgium on August 1, and

expects payment of 1,000,000 euros on December 1

c The U.S company plans to sell merchandise to a customer in Belgium on August

1, with payment of 1,000,000 euros expected on December 1

d The U.S company plans to purchase merchandise from a supplier in Belgium, with

payment of 1,000,000 euros expected to be paid on December 1

ANS: d

Use the following information on the U.S dollar value of the euro to answer questions 3 – 7 below:

Spot rate

Forward rate for April 30, 2011 delivery

4 Topic: Hedge of firm commitment

The gain on the firm commitment and loss on the forward contract are ($1.32 - $1.30) x

€100,000 = $2,000, and they offset for a zero effect on 2010 income

6 Topic: Hedge of forecasted transaction

LO 6

The forward contract hedges a forecasted sale for €100,000, expected at the end of April

2011 The net effect on 2010 income is:

The loss on the forward contract is reported in other comprehensive income

7 Topic: Hedge of forecasted transaction

LO 6

The forward contract hedges a forecasted sale for €100,000, expected at the end of April

2011 The sale takes place on April 30, 2011, €100,000 is collected, and the forward contract is closed Which statement is true, concerning the sale on April 30, 2011?

a The $1,000 total loss on the forward contract is reclassified from other

comprehensive income as an adjustment to sales revenue

b The $4,000 total gain on the forward contract is reclassified from other

comprehensive income as an adjustment to sales revenue

c The 2011 $6,000 gain on the forward contract is recognized as a hedging gain on

the 2011 income statement

d The 2010 $2,000 loss on the forward contract is recognized as a hedging loss on

the 2010 income statement

ANS: b

The total gain on the forward contract is ($1.30 - $1.26) x €100,000 = $4,000 Changes

in the value of the forward are reported in other comprehensive income until the hedged forecasted transaction is reported in income In this case, the forecasted transaction results in sales revenue, reported in 2011

8 Topic: Export transaction

LO 2

On May 20, 2012, when the spot rate is $1.30/€, a company sells merchandise to a

customer in Italy The spot rate is $1.31/€ on June 30, the company’s year-end Payment

of €100,000 is received on July 30, 2012, when the spot rate is $1.28/€ What is the effect

on fiscal 2012 and 2013 income?

Fiscal 2012 Fiscal 2013

a $1,000 exchange loss $3,000 exchange gain

b $1,000 exchange gain $3,000 exchange loss

ANS: b

Fiscal 2012 exchange gain = ($1.31 - $1.30) x €100,000 = $1,000

Fiscal 2013 exchange loss = ($1.31 - $1.28) x €100,000 = $3,000

9 Topic: Import transaction

LO 2

On May 20, 2012, when the spot rate is $1.30/€, a company purchases merchandise from

a supplier in Italy The spot rate is $1.31/€ on June 30, the company’s year-end Payment

of €100,000 is made on July 30, 2012, when the spot rate is $1.28/€ What is the effect onfiscal 2012 and 2013 income?

Fiscal 2012 Fiscal 2013

a $1,000 exchange loss $3,000 exchange gain

b $1,000 exchange gain $3,000 exchange loss

ANS: a

Fiscal 2012 exchange loss = ($1.31 – $1.30) x €100,000 = $1,000

Fiscal 2013 exchange gain = ($1.31 – $1.28) x €100,000 = $3,000

Data for questions 10 and 11 are as follows:

On September 8, the Sealy Company purchased cotton at an invoice price of €20,000, when the exchange rate was $1.32/€ Payment was to be made on November 8 On November 8, Sealy purchased the €20,000 for $1.30/€, and paid the invoice

10 Topic: Import transaction

Data for questions 12 and 13 are as follows:

On June 5, Teneco Corporation sold merchandise at an invoice price of €100,000, when the exchange rate was $1.36/€ Payment was to be received on August 16 On August 16, the customer paid the €100,000 The exchange rate on that date was $1.39/€

12 Topic: Export transaction

14 Topic: Analysis of foreign currency risks

LO 3

A U.S exporter has made a sale to a customer in another country The customer is obligated to remit payment in his local currency in 90 days The direct spot rate is now

$1.54 The 90-day forward rate is $1.60 At which spot rate at the time the customer

remits payment would the company have been better off not hedging the export

transaction with a forward contract?

a If the spot price for zloty is $.36 on December 20, the company will gain $359,800

16 Topic: Hedge of import transaction

LO 4

A U.S import company purchases boomerangs from an Australian supplier on October 1,

2013 for 100,000 Australian dollars (A$), payable February 1, 2014 On October 1, 2013,the company enters into a forward contract to hedge the foreign currency risk resulting from this purchase Exchange rates are as follows:

Spot rate

Forward rate for 2/1 delivery

forward contract: ($.85 - $.84) x A$100,000 = $1,000 loss

payable: ($.89 - $.88) x A$100,000 = 1,000 gain

2014:

-0-forward contract: ($.84 - $.82) x A$100,000 = $2,000 loss

payable: ($.88 - $.82) x A$100,000 = 6,000 gain

$4,000 gain

17 Topic: Hedge of firm commitment

LO 5

ABC Corporation issues a purchase order for 1,000,000 semiconductors to a foreign supplier The agreed upon total price is FC1,200,000, and the current spot rate is $1/FC Suppose a forward contract is taken out when the purchase order is issued, at a rate of

$0.95/FC, for delivery when the semiconductors are received If the spot rate rises to

$1.05 when the semiconductors are received and paid for by ABC, at what value will the semiconductors be reported on ABC’s books?

Use the following information to answer questions 18 and 19 below

A U.S company purchases a 60-day certificate of deposit from an Italian bank on October 15 The certificate has a face value of €1,000,000, costs $1,200,000 (the spot rate is $1.20/€), and pays interest at an annual rate of 6 percent On December 14, the certificate of deposit matures and the company receives principal and interest of €1,010,000 The spot rate on December 14 is

$1.18/€ The average spot rate for the period October 15 – December 14 is $1.19/€

18 Topic: Foreign currency lending

19 Topic: Foreign currency lending

Use the following information to answer questions 20 – 22 below:

A U.S company anticipates that it will purchase merchandise for €10,000,000 at the end of July, and pay for it at the end of September On March 1, it enters a forward contract to buy

€10,000,000 on September 30 The forward contract qualifies as a cash flow hedge The

company’s accounting year ends December 31 The company actually purchases the merchandise

on July 30 and closes the forward contract and pays for the merchandise on September 30 It stillholds the merchandise at the end of the year Exchange rates are as follows:

Spot rate

Forward rate for 9/30 delivery

20 Topic: Hedge of forecasted transaction

Changes in the value of the forward are reported in other comprehensive income

The $100 loss on the payable is exactly offset by a reclassification of $100 out of other comprehensive income, so there is no net effect on income

22 Topic: Hedge of forecasted transaction

When merchandise is sold:

Use the following information on the U.S dollar value of the euro to answer questions 23 – 25:

Spot rate

Forward rate for March 20, 2012 delivery

On November 30, 2011, a U.S company, with a December 31 year-end, enters a forward

purchase contract for €100,000 to be delivered on March 20, 2012 The forward

contract does not qualify as a hedge The company closes the contract at its expiration date Which statement is true?

a No gain or loss is reported until the forward is closed on March 20

On November 30, 2011, a U.S company, with a December 31 year-end, enters a forward

sale contract for €100,000 to be delivered on March 20, 2012 The forward contract

does not qualify as a hedge The company closes the forward contract on December 31 Which statement is true?

a No gain or loss is reported

b A loss of $1,000 is reported in 2011

c A loss of $3,000 is reported in 2011

d A loss of $2,000 is reported in 2011

25 Topic: IFRS for hedge of a forecasted purchase

LO 8

On November 30, 2011, a U.S company, with a December 31 year-end, enters a forward

purchase contract for €100,000 to be delivered on March 20, 2012 The contract hedges

a forecasted purchase of equipment The forward is closed and the equipment purchased

on March 20 If the company follows IFRS and reports gains and losses on hedges of

forecasted transactions as basis adjustments, total depreciation expense over the life of

the equipment is:

The value of the euro changes from $1.39 to $1.43 Which statement is true concerning

changes in the value of the euro in relation to the U.S dollar?

a Each U.S dollar can be exchanged for more euros

b Each euro can be exchanged for fewer U.S dollars

c The U.S dollar has strengthened with respect to the euro

d A $10 product can be purchased with fewer euros

28 Topic: Forward sale hedging foreign currency receivable

A U.S company has payables to suppliers denominated in euros, and hedges these

payables with foreign currency forward purchase contracts The euro strengthens against the U.S dollar Which statement is true?

a The gain on the payables and the loss on the forward are reported on the income

30 Topic: Forward sale hedging forecasted transaction

LO 6

A U.S company sells its products to customers in Japan, priced in yen It hedges a

forecasted sale to a Japanese customer with a forward sale of yen Changes in the value ofthe hedge investment are:

a Reported in other comprehensive income until the products are produced

b Reported as adjustments to selling and administrative expenses when the products

are sold

c Reported in income as the changes occur

d Reported in other comprehensive income until the products are sold

ANS: d

31 Topic: Special hedge accounting, cash flow hedges

LO 3, 6

Changes in the market value of forward foreign currency contracts used to hedge

forecasted sales of merchandise to customers are:

a Reported on the income statement if the forwards qualify for special hedge

accounting and in other comprehensive income if they don’t qualify

b Reported as a direct adjustment to retained earnings if they qualify for special

hedge accounting and on the income statement if they don’t qualify

c Reported in other comprehensive income if they qualify for special hedge

accounting and on the income statement if they don’t qualify

d Not reported if they qualify for special hedge accounting and reported on the

income statement if they don’t qualify

ANS: c

32 Topic: Cash flow hedges

LO 3, 6

Which one of the following is a cash flow hedge for a U.S company?

a A hedge of euro-denominated receivables

b A hedge of a planned purchase of inventory, denominated in pesos

c A hedge of a sales order from a customer in the U.K., denominated in pounds

d A hedge of payables denominated in U.S dollars

ANS: b

33 Topic: Identification of hedge investments

LO 3

Which of the following is not a hedge investment?

a A U.S company issues a purchase order to a supplier in Mexico who requires

payment in pesos, and invests in a put option in pesos

b A U.S company has debt denominated in euros, and invests in a forward purchase

of euros

c A U.S company’s customers owe it several million pesos from credit sales, and the

company invests in a forward sale of pesos

d A U.S company invests in corporate bonds denominated in euros and enters a put

a Short position in euro futures

b Put option in euros

c Borrow from a bank in Italy, payment denominated in euros

d Forward purchase of euros

ANS: d

35 Topic: Derivatives disclosures

LO 7

SFAS 161, effective at the end of 2008, provides that:

a Hedges reported as assets be combined with hedges reported as liabilities

b All hedged items be carried at market value

c Additional footnote disclosures detail hedging gains and losses by hedge type.

d Hedging gains and losses be separately displayed on the income statement and not

combined with other accounts

ANS: c

36 Topic: Identification of hedge investments

LO 3

Which of the following is the real hedge?

a A call option in euros, used to hedge a forecasted sale to a customer, denominated

in euros

b A call option in euros, used to hedge an investment in securities, denominated in

euros

c A put option in euros, used to hedge a receivable denominated in euros

d A forward sale in euros, used to hedge debt denominated in euros

b The U.S company uses the forward contract to hedge a forecasted purchase of

merchandise from a French supplier

c The U.S company uses the forward contract to hedge a planned purchase of

commodities from an Italian supplier

d The U.S company uses the forward contract to hedge an expected acquisition of

commodities from a Belgian company

ANS: a

38 Topic: Hedging financial risk

LO 1, 3

Which statement below best describes the process of hedging using financial derivatives?

a You have inside information that the $/yen rate is going to rise, so you invest in a

financial derivative that allows you to gain if the $/yen rate rises

b You have inside information that the $/euro rate is going to fall, so you invest in a

financial derivative that allows you to gain if the $/euro rate falls

c As part of your normal business transactions, you are exposed to financial risk

You invest in financial derivatives to increase potential gains from financial risk

d As part of your normal business transactions, you are exposed to financial risk

You invest in financial derivatives to reduce that risk

a Call option in euros

b Short position in euros

c Forward sale of euros

d Borrowing from a German bank

41 Topic: Valuation of forward contracts

LO 3

On December 1, a U.S company agrees to buy euros on February 1 at a contract price of

$1.40 The company did not pay anything for this contract The exchange rate for euros declines to $1.38 (U.S dollar strengthens) between December 1 and December 31, when the company’s reporting year ends How is this contract reported on the company’s year-end balance sheet?

a In the asset section

b In the liability section

a Asset or liability on the balance sheet

b Increase or decrease in other comprehensive income

c Adjustment to sales revenue

d Adjustment to cost of goods sold

ANS: c

43 Topic: Foreign currency borrowing

LO 2

The XYZ Company borrows 100,000,000 euros by issuing bonds to German investors when the spot rate is $1.25/€ The interest rate is 10 percent per annum When XYZ

accounts for this loan, which of the following will not be true?

a A decrease in the exchange rate will generate an exchange gain on the bonds

payable

b If the spot rate rises to $1.35/€ one year hence, when the interest payment is

accrued, the interest expense will be recorded at $13,500,000

c If XYZ desires to hedge these bonds, it will have to purchase euros forward

d The bonds payable will be carried at $125,000,000 until they mature

ANS: d

44 Topic: Foreign currency borrowing

LO 2

Interest expense on a loan denominated in another currency is translated at:

a The average spot rate for the period the interest covers

b The spot rate when the loan was made

c The spot rate when the interest is recorded

d The forward rate for delivery when the interest must be paid

a Reduce the percentage of receivables hedged

b Reduce the percentage of payables hedged

c Increase the percentage of receivables hedged

d Increase the percentage of payables hedged

ANS: a

46 Topic: Hedge accounting

LO 3

Two major goals of SFAS 133 are:

a Disclose the fair values of derivatives investments in the footnotes of the financial

statements, and report hedged assets and liabilities at fair value on the balance sheet

b Report the fair values of derivatives investments on the balance sheet, and report

hedged assets and liabilities at fair value on the balance sheet

c Report the fair values of derivatives investments on the balance sheet, and match

gains and losses on hedge investments and hedged assets and liabilities on the sameincome statement

d Report hedged assets and liabilities at fair value on the balance sheet, and match

gains and losses on hedge investments and hedged assets and liabilities on the sameincome statement

a When the customer pays for the merchandise

b When the anticipated sale becomes a firm commitment

c When the hedge investment is determined to be an effective hedge

d When the merchandise is sold

a When the forward contract changes in market value

b When the forward contract is closed

c When the forward contract is determined to be an effective hedge

d When the merchandise is sold

ANS: a

49 Topic: Hedge of foreign-currency-denominated payable

LO 4

A U.S company has entered into a forward purchase contract to hedge a reported foreign currency obligation If the U.S dollar weakens against the foreign currency:

a The forward contract appears as a current asset on the company’s balance sheet

b The forward contract’s reported value exactly offsets the reported foreign currency

obligation, with no net balance sheet disclosure

c The gain on the forward contract adds to other comprehensive income

d The gain on the foreign currency obligation adds to other comprehensive income.ANS: a

50 Topic: IFRS for foreign currency hedging

LO 8

IFRS allows which reporting practice, not allowed under U.S GAAP?

a Reporting foreign currency derivative positions at cost rather than at market value

b Reporting gains and losses on cash flow hedges as adjustments to the carrying

value of related asset acquisitions

c Reporting gains and losses on firm commitment hedges as adjustments to the

carrying value of related asset acquisitions

d Reporting foreign currency derivative positions at market rather than at costANS: b

accounting year ends December 31.

Spot rate March 31, 2011 delivery Forward rate for

Required

Answer the following questions

a The company sells merchandise to a Canadian customer for C$100,000 on October

31, 2010, and receives payment from the customer, in Canadian dollars, on March

31, 2011 What are the following balances?

i Sales revenue for 2010

ii Accounts receivable, December 31, 2010iii Exchange gain or loss for 2011

b The company sells merchandise to a Canadian customer for C$100,000 on October

31, 2010, and receives payment from the customer, in Canadian dollars, on March

31, 2011 On October 31, 2010 it enters a forward contract to lock in the selling price of Canadian dollars, for March 31, 2011 delivery On March 31, 2011, it delivers the Canadian dollars and closes the forward contract What are the balances?

i Investment in forward , December 31, 2010

ii Amount of U.S dollars received March 31, 2011

c The company enters a forward contract on October 31, 2010 to hedge a forecasted

purchase of merchandise for C$100,000 on March 31, 2011 On March 31 it takesdelivery of the merchandise, closes the forward and pays for the merchandise It sells the merchandise in May What are the balances?

i Investment in forward, December 31, 2010

ii Cost of goods sold on May sale

a i C$100,000 x $.82 = $82,000

ii C$100,000 x $.85 = $85,000iii C$100,000 x ($.85 - $.83) = $2,000 loss

A U.S company buys merchandise from suppliers in the U.K., and pays for the

merchandise in pounds sterling Its accounting year ends December 31 Use the followinginformation on $/£ to answer the questions below

Spot rate Forward rate for delivery March 1, 2013

Answer the following questions:

a The U.S company takes delivery of merchandise costing £1,000,000 on November

1, 2012 The company pays for the merchandise, in pounds, on March 1, 2013

No hedging is involved The company sells the merchandise on June 1, 2013 What amounts will appear on the financial statements of the U.S company for:

i Accounts payable, December 31, 2012 balance sheet

ii Exchange gain or loss, 2012 income statementiii Cost of goods sold, 2013 income statement

b Assume the same facts as in a above, but the U.S company issues a purchase

order on October 1, 2012 before taking delivery on November 1 On October 1 the company also enters a forward contract to hedge its FX risk, for delivery of pounds on March 1, 2013 What amounts will appear on the financial statements

a i £1,000,000 x $1.35 = $1,350,000

ii £1,000,000 x ($1.30 - $1.35) = $50,000 lossiii £1,000,000 x $1.30 = $1,300,000

Following are exchange rates for the euro (U.S $/€) Import Express is a U.S company

whose accounting year ends on December 31

Spot rate

Forward rate for May 31, 2011 delivery

Required

Answer the following questions

a On November 30, 2010, Import Express takes delivery of merchandise on credit

from an Italian supplier for €1,000 It pays for the merchandise on May 31, 2011

It sells the inventory to a U.S customer during 2011 What are the correct amounts that will appear on Import Express’ financial statements for each of the following items?

i Accounts payable, December 31, 2010 balance sheet

ii Cost of goods sold, 2011 income statementiii Foreign exchange loss, 2010 income statement

b On November 30, 2010, Import Express takes delivery of merchandise on credit

from an Italian supplier for €1,000 On the same day, it agrees to buy €1,000 (forward purchase) for delivery on May 31, 2011 Import Express closes the forward on May 31 and pays for the merchandise It sells the inventory to a U.S customer during 2011 What are the correct amounts that will appear on Import Express’ financial statements for each of the following items?

i Investment in forward contract, December 31, 2010 (asset)

ii Loss on forward contract, 2011

Gain on accounts payable, 2011

c On November 30, 2010, Import Express forecasts that it will need to buy

merchandise for €1,000 from an Italian supplier at the end of May, 2011 It plans

to pay for the merchandise as soon as it is delivered On November 30, 2010, Import Express agrees to buy €1,000 (forward purchase) for delivery on May 31,

2011 The forward contract qualifies as a cash flow hedge of the forecasted purchase of merchandise The merchandise is actually delivered on May 31, 2011 Import Express closes the forward and immediately pays the supplier The

merchandise is subsequently sold to a U.S customer later in 2011 Make the journal entries necessary to record these events:

i December 31, 2010: Adjust the investment in forward contract

ii May 31, 2011:

(1) Adjust the investment in forward contract

(2) Close out the forward contract

(3) Take delivery of the merchandise and pay for it

iii Record cost of sales for 2011

i Accounts payable, December 31, 2010 balance sheet $1,280

ii Cost of goods sold, 2011 income statement $1,250

ii Exchange loss, 2010 income statement $ 30

b Entries (not required):

i Investment in forward contract, December 31, 2010 (asset) $20

ii Loss on forward contract, 2011 $60

Gain on accounts payable, 2011 $20