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Item 8

Exercise A-2 (Static) Derivatives; interest rate swap; fixed rate debt [LOA2]

On January 1, 2024, LLB Industries borrowed $200,000 from Trust Bank by issuing a two-year, 10% note, with interest payable quarterly.

• LLB entered into a two-year interest rate swap agreement on January 1, 2024, and designated the swap as a fair value hedge. Its intent was to hedge the risk that general interest rates will decline, causing the fair value of its debt to increase.
• The agreement called for the company to receive payment based on a 10% fixed interest rate on a notional amount of $200,000 and to pay interest based on a floating interest rate. The contract called for cash settlement of the net interest amount quarterly and rates reset at the beginning of each period.
• Floating (SOFR) settlement rates were 10% at January 1, 8% at March 31, and 6% at June 30 and September 30, 2024. The fair values of the swap are quotes obtained from a derivatives dealer. Those quotes and the fair values of the note are as indicated below. Assume LLB uses the shortcut method.

	January 1	March 31	June 30	September 30
Fair value of interest rate swap	$ 0	$ 6,472	$ 11,394	$ 9,565
Fair value of note payable	$ 200,000	$ 206,472	$ 211,394	$ 209,565

Required:

1. Calculate the net cash settlement at March 31, June 30, and September 30, 2024.
2. Prepare the journal entries through September 30, 2024, to record the issuance of the note, interest, and necessary adjustments for changes in fair value.
3. Calculate the net cash settlement at June 30, 2024, assuming that rates reset in arrears.
4. Prepare the journal entries through June 30, 2024, assuming that rates reset in arrears, to record the issuance of the note, interest, and necessary adjustments for changes in fair value.