# Marchetti Company: Foreign Currency Hedge Accounting ## Scenario Overview - **Purchase:** 1,000 cases of wine at 200 euros per case = **200,000 euros** - **Spot & Option Rates:** | Date | Spot Rate | Call Option Premium (Strike $1.00) | |------------------|-----------|-----------------------------------| | Nov 1, 2025 | $1.00 | $.045 | | Dec 31, 2025 | $1.09 | $.080 | | Jan 31, 2026 | $1.07 | N/A | - **Borrowing rate:** 12% per year (1% per month). Present value for 1 month = .9901. - **Questions:** Journal entries and net benefit of hedging vs. unhedged for two cases. --- ## (a) Wine Arrived and Paid on Nov 1, 2025; Option Purchased and Settled Jan 31, 2026 ### 1. **Journal Entries** #### **Nov 1, 2025: Buy Option** - Premium paid = 200,000 × $.045 = **$9,000** - Entry: ``` Dr. Option Premium (Asset) $9,000 Cr. Cash $9,000 ``` #### **Nov 1, 2025: Wine Purchase and Liability** - Purchase at spot $1.00: ``` Dr. Inventory $200,000 Cr. Accounts Payable (EUR) $200,000 ``` #### **Dec 31, 2025: Adjust Option to FV** - Option FV = Option intrinsic value + time value. - Spot = $1.09, Strike = $1.00, so intrinsic value = $.09. - FV = 200,000 × $.09 = **$18,000** - Premium paid = $9,000, FV change = $18,000 - $9,000 = **$9,000 gain** ``` Dr. Option Premium (Asset) $9,000 Cr. Gain on Hedge (P&L) $9,000 ``` #### **Dec 31, 2025: Adjust Payable to Spot Rate** - FX loss = (1.09 – 1.00) × 200,000 = **$18,000** ``` Dr. FX Loss (P&L) $18,000 Cr. Accounts Payable $18,000 ``` #### **Jan 31, 2026: Exercise Option, Settle Liability** - Spot = $1.07, option exercised at $1.00. - Pay $200,000 × $1.00 = $200,000 (using option) - Remove option asset: ``` Dr. Accounts Payable $218,000 Cr. Cash $200,000 Cr. Option Premium (Asset) $18,000 ``` ### 2. **Net Benefit of Hedging vs. Unhedged** #### **Unhedged:** - Pay on Jan 31, 2026, at spot $1.07: **$214,000** #### **Hedged:** - Pay $200,000 (option exercise) + $9,000 (premium) = **$209,000** #### **Net Benefit:** - **$214,000 (unhedged) – $209,000 (hedged) = $5,000 saved by hedging** --- ## (b) Wine Arrived and Paid Jan 31, 2026; Option Purchased Nov 1, 2025 ### 1. **Journal Entries** #### **Nov 1, 2025: Buy Option** - Same as (a). #### **Nov 1, 2025: No Entry for Firm Commitment** - Only off-balance sheet. #### **Dec 31, 2025: Adjust Option to FV, Discount Gain** - Option FV = $18,000 (see above). - Discount to PV: $18,000 × .9901 = **$17,821.80** - Gain = $17,821.80 – $9,000 = **$8,821.80** ``` Dr. Option Premium (Asset) $8,821.80 Cr. Gain on Hedge (OCI) $8,821.80 ``` #### **Dec 31, 2025: Firm Commitment Adjustment** - Recognize gain/loss to offset option FV adjustment (OCI). #### **Jan 31, 2026: Exercise Option, Settle Liability** - Upon purchase and payment: - **Inventory at $200,000** - Pay $200,000 cash (using option) - Remove option asset ($17,821.80); recognize remaining gain/loss. ``` Dr. Inventory $200,000 Cr. Cash $200,000 Dr. OCI (option gain) $8,821.80 Cr. Option Premium (Asset) $8,821.80 ``` ### 2. **Net Benefit of Hedging vs. Unhedged** - **Unhedged:** Pay $214,000. - **Hedged:** Pay $200,000 + $9,000 (option) = $209,000. - **Net benefit:** $5,000 saved by hedging (same as above). --- ## **Final Summary** - **Hedging using a call option saves Marchetti Company $5,000,** as they avoid paying the higher spot rate on Jan 31, 2026. - **Journal entries** reflect the purchase of the option, the fair value changes, and the exercise of the option. - **Hedging is beneficial** when the future spot rate exceeds the option strike price plus premium. In both cases, it resulted in a net benefit over leaving the transaction unhedged. --- **Let me know if you need calculations for present value or more journal entry detail!**

# Summary of Marchetti Company Foreign Currency Hedge Accounting ## (a) Scenario Summary Marchetti Company purchased a call option on November 1, 2025, allowing them to hedge against rising euro costs for wine they ordered. By exercising the option on January 31, 2026, they saved $5,000 compared to paying the higher spot rate without the hedge. ## (b) Scenario Summary In this scenario, the wine arrived on January 31, 2026, with the option purchased on November 1, 2025, acting as a hedge against a firm commitment. The net benefit of hedging remained $5,000, similar to the first scenario, as the company effectively managed foreign currency exposure.