On 1.1.2020, Sub-1 entered into a contract to purchase gold (inventories) from a foreign supplier, to be delivered in twelve months time on 31.12.2020. On that date, 1,500,000 will be payable on delivery.

Sub-1 does not wish to be exposed to changes in exchange rates. Therefore, it takes out a forward contract to purchase 1,500,000 in twelve months time at $/ 0.95 ($1 = 0.95).

On 30.6.2020, the forward rate for 31.12.2020 is $/ 0.90.

On 31.12.2020, when the gold inventories are delivered, the exchange (spot) rate is at $/ 0.90.

Questions

1. What is the economic hedge objective of the forward contract entered into by Sub-1?

2. What are Sub-1s journal entries on 30.6.2020 and 31.12.2020 if hedge accounting is not applied? The forward contract is an asset or a liability on 30.6.2020 (how much is it worth)? Why?

3. What are Sub-1s journal entries on 30.6.2020 and 31.12.2020 if hedge accounting is applied?

4. Compared the impact in Sub-1s Profit & Loss statement of the transactions (inventory purchase and forward contract) with and without hedge accounting being applied (focus on cost of goods sold, gain/loss from derivative contract and net income/loss).