ExpertHard1 markMultiple Choice
CPA · Question 13 · Area II: Technical Accounting
Riverdale Corp. enters into a forward contract to hedge the fair value exposure of an inventory of copper. The inventory is carried at cost. The hedge qualifies as a Fair Value Hedge. At year-end, the fair value of the copper inventory has decreased by $50,000, and the fair value of the forward contract has increased by $48,000. How should these changes be reported in the income statement?
Riverdale Corp. enters into a forward contract to hedge the fair value exposure of an inventory of copper. The inventory is carried at cost. The hedge qualifies as a Fair Value Hedge. At year-end, the fair value of the copper inventory has decreased by $50,000, and the fair value of the forward contract has increased by $48,000. How should these changes be reported in the income statement?
Answer options:
A.
Recognize $48,000 gain on derivative; ignore inventory loss until sold.
B.
Recognize $48,000 gain on derivative and $50,000 loss on inventory.
C.
Recognize net $2,000 loss in OCI.
D.
Recognize $48,000 gain in OCI.
How to approach this question
Identify hedge type: Fair Value Hedge. Rule: Derivative gain/loss -> Income. Hedged Item gain/loss -> Income (adjust carrying amount). Net impact is the difference (ineffectiveness).
Full Answer
B.Recognize $48,000 gain on derivative and $50,000 loss on inventory.✓ Correct
ASC 815 requires that for a Fair Value Hedge, the gain or loss on the hedging instrument (derivative) is recognized in earnings. Simultaneously, the change in fair value of the hedged item attributable to the hedged risk is also recognized in earnings (adjusting the carrying amount of the inventory). This results in a net $2,000 loss in earnings.
Common mistakes
Confusing Fair Value Hedge rules with Cash Flow Hedge rules (where effective portion goes to OCI).
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