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A U.S. company expects to purchase €1,000,000 in merchandise from an Italian supplier in 4 months. To protect against a weakening U.S. dollar, on June 1 the company pays $11,000 for September call options on €1,000,000, with a strike price of $1.23/€. The current spot rate is $1.22/€. The intrinsic value of the options is designated as a cash flow hedge of the forecasted purchase, and changes in time value are reported in income. Income effects of the purchase and the hedge are reported in the company's cost of goods sold. On September 30, the company takes delivery of the merchandise, sells the options for their intrinsic value, and pays the supplier by buying €1,000,000 on the spot market. The September 30 spot rate is $1.26/€. On October 25, the company sells the merchandise and records cost of goods sold. The company's accounting year ends December 31.
Required:
Problem 1: Prepare the journal entries for the above transactions, including recognition of cost of goods sold on the sale of the merchandise.
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