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Question
The Hockey Supply Company acquires its inventory from a Canadian supplier. As a result, the company purchases call options in order to hedge its foreign currency risk. On December 1, 2011, Hockey Supply Company made a commitment to purchase inventory during February 2012; the payment of one million Canadian dollars is due at the time of the inventory purchase. The company immediately purchased a call option on one million Canadian dollars at a strike price of $.98 per Canadian dollar; the call option cost $5,200. The call option is considered to be a fair value hedge. As of December 31, 2011, the spot rate was .975 U.S. dollars per Canadian dollar, and the fair value of the call option was $1,300. Hockey Supply Company purchased the inventory on February 5, 2012. The spot rate at the time of purchase was .99 U.S dollars per Canadian dollar and the fair value of the call option was $8,900.
Requirement:
Prepare the necessary journal entries for December 1, 2011, December 31, 2011, and February 5, 2012.
Answer
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