6. Cash Flow Hedge of a Forecasted Transaction (10 points) On November 30, 2018, Jones Co., a US based company, entered into a cancelable purchase order with a German based supplier. The purchase order states that our company will purchase from the German company, on March 31, 2019 100,000 units of inventory at a sales price of 5 Euros each. The purchase order specifies that Jones will make payment in Euros on that same date. Also on November 30, Jones purchased a three month option to buy 500,000 Euros at an option exercise price of $1.05, the spot rate on this date. Jones paid a premium of $6,000 to acquire the option. The option expires on March 31. Jones took possession of the inventory on March 31 made payment in Euros on the same date. Jones sold the inventory to an unaffiliated company on June 1. The option qualifies as a cash flow hedge or a forecasted transaction. Assume that the time value of the option decreases evenly over the three month contract. Date Spot Rate Time Value Intrinsic Fair Value Value November 30, 2018 December 31, 2018 March 31, 2019 $1.05 $1.07 $1.04 Complete the table. a. Prepare the journal entries for Jones Co, related to the forecasted transaction and the cash flow hedge. b. What is the total amount that is recorded as cost of goods sold. c. Why would a company enter into an option to hedge a forecasted transaction instead of a forward or futures contract? 6. Cash Flow Hedge of a Forecasted Transaction (10 points) On November 30, 2018, Jones Co., a US based company, entered into a cancelable purchase order with a German based supplier. The purchase order states that our company will purchase from the German company, on March 31, 2019 100,000 units of inventory at a sales price of 5 Euros each. The purchase order specifies that Jones will make payment in Euros on that same date. Also on November 30, Jones purchased a three month option to buy 500,000 Euros at an option exercise price of $1.05, the spot rate on this date. Jones paid a premium of $6,000 to acquire the option. The option expires on March 31. Jones took possession of the inventory on March 31 made payment in Euros on the same date. Jones sold the inventory to an unaffiliated company on June 1. The option qualifies as a cash flow hedge or a forecasted transaction. Assume that the time value of the option decreases evenly over the three month contract. Date Spot Rate Time Value Intrinsic Fair Value Value November 30, 2018 December 31, 2018 March 31, 2019 $1.05 $1.07 $1.04 Complete the table. a. Prepare the journal entries for Jones Co, related to the forecasted transaction and the cash flow hedge. b. What is the total amount that is recorded as cost of goods sold. c. Why would a company enter into an option to hedge a forecasted transaction instead of a forward or futures contract
