Solved by verified expert :Jarvis Corporation transacts business with a number of
foreign vendors and customers. These transactions are denominated in FC,
and the company uses a number of hedging strategies to reduce the
exposure to exchange rate risk. Several such transactions are as follows:
Transaction A: On November 30, the company
purchased inventory from a vendor in the amount of 100,000 FC with
payment due in 60 days. Also on November 30, the company purchased a forward
contract to buy FC in 60 days. Changes in the value of the commitment are
based on changes in forward rates.
Transaction B: On November 1, the company
committed to provide services to a foreign customer in the amount of 100,000
FC. The services will be provided in 30 days. On November
1, the company also purchased a forward contract
to sell 100,000 FC in 30 days.
Transaction C: On November 1, the company
forecasted a purchase of equipment in 30 days. The forecasted cost is
100,000 FC, and the equipment is to be depreciated over ?ve years using the
straight-line method of depreciation. On November 1, the company acquired a
forward contract to buy 100,000
FC in 30 days.
Transaction D: On November 30, the company
purchased an option to sell 100,000 FC in 60 days to hedge a forecasted
sale to a customer in 60 days. The option sold for a premium of $1,200 and had
a strike price of $1.155. The value of the option on December 31 was
$2,000.
The time value of all hedging instruments is
excluded from the assessment of hedge effectiveness. Relevant spot and forward
rates are as follows:
Spot Rate Forward Rate for 30
Daysfrom November 1 Forward Rate for 60
Daysfrom November 30
ovember 1 .. . . . . … .. .. .. 1 FC ¼ $1.12 1FC
¼ $1.132
November 15 . . . . . … .. .. .. 1 FC ¼ $1.13
November 30 . . . . . … .. .. .. 1 FC ¼ $1.15 1
FC ¼$1.146
December 31.. . . . . … .. .. .. 1 FC ¼ $1.14 1
FC ¼$1.138
Assuming that the company’s year-end is December
31, for each of the above transactions determine the current-year effect
on earnings. All necessary discounting should be determined by using a
6% discount rate. For transactions C and D, the time value of the hedging
instrument is excluded from hedge effectiveness and is to be separately
accountedIncome statement effect of transactions, commitments,& hedging. Clayton industries sells medical equipment worldwide. On Mar 1 of the current year, the company sold equipment, with a cost of $160,000 to a foreign customer for 200,000 euros payable in 60 days. At the same time, the company purchased a forward contract to sell 200,000 euros in 60 days. In another transaction, the company committed, on Mar 15, to deliver equipment in May to a foreign customer in exchange for 300,000 euros payble in June. This equipment is anticipated to have a completed cost of $210,000. On Mar 15, the company hedged the commitment by acquiring a forward contract to sell 300,000 in 90 days. Changes in the value of the commitment are based on changes in forward rates & all discounting is based on a 6% discount rate.Various spot and forward rates for the euro are as follows: Spot rate Forward rate fo 60 days from Mar 1 Forward rate for 90 days from Mar 15Mar 1 $1.180 $1.181 Mar 15 1.181 1.180 $ 1.179Mar 31 1.179 1.178 1.177Apr 30 1.175 1.174For individual months of Mar & Apr calculate the income statement effects of:1. the foreign currency transaction2. the hedge on the foreign currency transaction.3. the foreign currency commitment.4. the hedge on the foregin currency commitment.
