Palmer Company purchases materials from a foreign supplier on December 1, 2017,

Question

Palmer Company purchases materials from a foreign supplier on December 1, 2017, with payment of 12,000 FCUs to be made on March 1, 2018. On December 1, 2017, Palmer enters into a forward contract to purchase 12,000 FCUs on March 1, 2018. Relevant exchange rates for the FC on various dates are as follows:

                                     Date     Spot Rate    Forward Rate (to march 1,2018)

                            Dec 1, 2017     $2.70                          $2,775

                           Dec 31, 2017     $2.80                         $2,900

                           March 1,2018    $2.95                           N/A

Palmer’s incremental borrowing rate is 12 percent. The present value factor for two months at an annual interest rate of 12 percent (1 percent per month) is 0.9803. Palmer must close its books and prepare financial statements at December 31.

1.Assume that Palmer designates the forward contract as a fair value hedge of a foreign currency payable,

Required:

a)Prepare journal entries for these transactions in U.S. dollars.

b) What is the impact on 2017 net income?

c)What is the impact on 2018 net income?

d)What is the impact on net income over the two accounting periods?

Explanation / Answer

Fair Value Hedge Date Accounts Debit Credit Dec. 1 2015 Accounts Receivable (K) (12,000 x $2.70] $32,400 Sales $32,400 No Entry Forward contract Dec. 31 2015 Accounts Receivable (K) $1,200 Foreign Exchange Gain (12000 x ($2.80 -$2.70) $1,200 Accumulated Other Comprehensive Income (AOCI) $1,470.45 Forward Contract $1,470.45 (12000 x (2.900-2.775) = 1500 x .9803 Mar. 1 2016 Accounts Receivable (K) $1,800 Foreign Exchange Gain (12000 x ($2.95 -$2.80) $1,800 Loss on Forward Contract $629.55 Forward Contract $629.55 (12000 x (2.95-2.775) = 2100 -1470.45 Foreign Currency (K) (12,000 x $2.95] $35,400 Accounts Receivable (K) $35,400 Cash (12000 x 2.775) $33,300 Forward Contract $2,100 Foreign Currency (K) $35,400 2) Impact on 2017 net income Sales $32,400 Foreign Exchange Gain $1,200 Loss on Forward Contract -1470.45 Total $32,129.55 3) Impact on 2018 net income Sales $1,800 Loss on Forward Contract -629.55 Total $1,170.45 4) Impact on net income over the two accounting period = $32,129.55+$1170.45 $33,300

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