Pepper manufacturing engaged in the following transactions: Purchased raw materi

Question

Pepper manufacturing engaged in the following transactions:

Purchased raw materials from a foreign supplier for 100,000FC when 1FC= $1.10. when the goods were purchased, a 60 day forward contract was also purchased to buy FC at a forward rate of 1FC=$1.11. The supplier was paid 60 days later when 1FC= $1.15.

Required:

A. Prepair the journal entries required on the date of purchase and on the date of payment. If a memo entry is required, indicate so.

B. idicate the effect on net income without the hedge and the effect on net income with the hedge.

Explanation / Answer

A Journal Debit Credit On the date of purchase Purchases A/c …….Dr               110,000                           To Supplier A/c             110,000 ( being purchases recorded in USD , 1FC = 1.1) On the date of payment Suppliers A/c ……..Dr               111,000                  To Cash/Bank A/c             111,000 ( Being reapyment done based on the forward contract ,1FC =1.11) Foreign Exchange Loss A/c    …….Dr                    1,000                  To supplier A/c                  1,000 ( Being loss on exchange due to repayment to the supplier ) the total loss would have been 1,000 B if the contract was not hedged, the payment would be made based on the actual rate 1 Fc = 1.15. Total amount to be paid would be 115,000. the total loss would have been 5,000 In this case , due to hedge the compnay has saved 4,000

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