Reference no: EM132462946
Problem - On December 1, 2018, a cotton wholesale purchases 10 million pounds of cotton inventory at an average cost of $.95 per pound. To protect the inventory from a possible decline in cotton prices, the company sells cotton futures contracts for 10 million pounds at $.86 a pound for delivery on June 1, 2019, to coincide with its expected physical sale of it cotton inventory. The company designates the hedge as a fair value hedge (i.e.. the company is hedging changes in the inventory's fair value, not changes in cash flows from anticipated sales). The cotton spot price on December 1 is $.94 per pound.
On December 31, 2018, the company's fiscal year-end, the June 1 futures price has fallen to $.76 per pound and the spot price has fallen to $.85 per pound. On June 1, 2019, the company closes out its futures contracts.
Following are futures and spot prices for the relevant dates:
Date
|
Spot
|
Futures
|
December 1, 2018
|
$.94
|
$.86
|
December 31, 2018
|
$.85
|
$.76
|
June 1, 2019
|
$.67
|
n/a
|
Ignore any time value of money issues or discounts or premiums.
Required - Prepare all the journal entries to record the following:
a. Purchase of cotton
b. Sale of cotton futures contract
c. Adjusting entry(ies) at December 31, 2018
d. Sale of cotton on June 1 including closing out the futures contract.