On January 2, 2017, Yellowknife Corp. issues a $10-million, five-year note at LIBOR, with interest paid annually. To protect against the cash flow uncertainty related to interest payments that are based on LIBOR, Yellowknife entered into an interest rate swap to pay 6% fixed and receive LIBOR based on $10 million for the term of the note. The LIBOR rate for the first year is 5.8%. The LIBOR rate is reset to 6.6% on January 2, 2018. Yellowknife follows ASPE and uses hedge accounting. On December 31, 2017, the fair value of the swap decreased by $13,500: it increased by $4,000 on December 31, 2018. Assume that the criteria for hedge accounting under ASPE are met.

Instructions

(a) For this transaction:

1. Identify the hedged item.

2. Identify the hedging item.

3. Identify how the hedged item would be accounted for without hedge accounting.

4. Identify how the hedging item is accounted for.

5. Indicate how the gains and losses for the hedged and hedging items are recognized.

(b) Calculate the net interest expense to be reported for this note and related swap transactions as at December 31, 2017 and 2018.

(c) Prepare the journal entries relating to the interest for the years ended December 31, 2017 and 2018.

(d) Explain why this is a cash flow hedge.

(e) Explain how the accounting would change if the company were to use hedge accounting under IFRS.