Reference no: EM132703340
On January 1, 2021, Labtech Circuits borrowed $203,300 from First Bank by using a three-year, 8% note, payable on December 31, 2023. Labtech wanted to hedge the risk that general interest rates will decline, causing their fair value of its debt to increase. Therefore, Labtech entered into a three-year interest rate swap agreement on January 1, 2021, and designated the swap at fair value hedge. The agreement called for the company to receive payment based on an 8% fixed interest rate on a notional amount of $203,300 and to pay interest based on a floating interest rate tied to LIBOR. The contract called for cash settlement of the net interest amount on December 31 of each year.
Floating (LIBOR) settlement rates were 8% at inception and 9%, 7%, and 7% at the end of 2021, 2022, and 2023, respectively. The fair values of the swap are quotes obtained from a derivatives dealer.
Those quoted and the fair values of the note are as follows:
Fair value of interest rate swap:
January 1, 2021 =$0,
December 31, 2021= ($2,700),
December 31, 2022 = $1,900,
December 31, 2023 = $0
Fair value of note payable:
January 1, 2021 =$203,300,
December 31, 2021= $200,600,
December 31, 2022 = $205,200,
December 31, 2023 = $203,300
Required:
Problem 1: Calculate the net cash settlement at the end of 2021, 2022, and 2023.
Problem 1: Prepare the journal entries during 2021 to record the issuance of the note, interest, and necessary adjustments for changes in fair value.
Problem 1: Prepare the journal entries during 2022 to record interest, net cash interest settlement for the interest rate swap, and necessary adjustments for changes in fair value.
Problem 1: Prepare the journal entries during 2023 to record interest, net cash interest settlement for the interest rate swap, and necessary adjustments for changes in fair value.