Accounting for Derivatives and Hedging Transactions (Part 3)

ANSWERS WITH SOLUTION :)

Use the following information for the next four questions:

On December 1, 2021, ABC Co. enters into a silver futures contract to purchase 4,000 ounces of silver on February 1, 2022 for 200 per ounce. The broker requires an initial margin deposit of 80,000. The quoted prices per ounce of silver are as follows:

Dec. 1, 2021 Dec. 31, 2021 Feb. 1, 2022

200 190 185

1.The entries on December 1, 2021 include

a. debit to "deposit with broker" for 80,000

b.credit to cash for 80,000

c. a and b

d. none

2.How much is the derivative asset (liability) as of December 31, 2021? (WITH SOLUTIONS)

a. 0b. (34,668)c. (40,000)d. 40,000

3.How much is the total net effect of the derivative on the 2021 and 2022 profit or loss? Gain (loss) (WITH SOLUTIONS)

a. (60,000)b. 60,000c. (40,000)d. 40,000

4.How much is the net settlement on February 1, 2022? - Receipt (payment) (WITH SOLUTIONS)

a. 20,000b. (20,000)c. (60,000) d. 60,000

Use the following information for the next seven questions:

ABC Co. is a commodity trader. On December 1, 2021, ABC Co. carries in its inventory 400 troy ounces of gold valued at 4,800,000 (or 12,000 per troy ounce). ABC Co. measures its inventory of gold at fair value less costs to sell through profit or loss.

To protect the fair value of its inventory against a potential decline in prices, ABC Co. enters into a "short" futures contract on December 1, 2021 to sell 400 troy ounces of gold at 12,100 per troy ounce on February 1, 2022 (the expected date of sale of the inventory). The futures contract requires an initial margin deposit of 384,000.

We will assume that the fair values shown below already reflect costs to sell.

Dec. 1, 2021 Dec. 31, 2021 Feb. 1, 2022

Spot price 12,000 12,250 11,800

Futures price 12,100 12,300 11,800

5.The entries on December 1, 2021 include

a. debit to "deposit with broker" for 384,000

b. credit to cash for 384,000

c. a and b

d. none

6.How much is the adjustment to the inventory account on December 31, 2021? Increase (decrease) (WITH SOLUTIONS)

a. 100,000b. (100,000)c. 80,000d. 0

7.How much is the derivative asset (liability) as of December 31, 2021? (WITH SOLUTIONS)

a. (100,000) b. 100,000c. (80,000)d. 80,000

8.How much is the gain (loss) on the futures contract on February 1, 2022? (WITH SOLUTIONS)

a. 0b. (80,000)c. (200,000)d. 200,000

9.How much is the net settlement on February 1, 2022? - Receipt (payment) (WITH SOLUTIONS)

a. 120,000b. (120,000)c. 504,000d. 504,000

10.How much is the total net cash receipt (payment) on the two contracts? (WITH SOLUTIONS)

a. 4,840,000b. (4,840,000)c. (504,000)d. 504,000