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ACCA Strategic Professional · Strategic Business Reporting (International) · Financial instruments

Kappa Co (functional currency dollar) has a forward contract to sell €2m in 6 months at $1.10 per euro, designated as a cash flow hedge of a highly probable €2m sale. At the year end, the forward's fair value is a liability of $60,000. The change in fair value of the highly probable sale's expected cash flows (present value) is a gain of $50,000 in dollar terms. Assume the hedge relationship qualifies. What is the amount recognised in other comprehensive income and in profit or loss for the year on the hedging instrument?

Kappa recognises a $50,000 loss in other comprehensive income and a $10,000 loss in profit or loss. Under the cash flow hedge rule the effective portion is the lower of the cumulative instrument loss ($60,000) and the hedged item's change ($50,000); the excess is ineffectiveness.

  1. AOCI loss $50,000; profit or loss loss $10,000Correct
  2. BOCI loss $60,000; profit or loss nil
  3. COCI loss $10,000; profit or loss loss $50,000
  4. DProfit or loss loss $60,000; OCI nil

Explanation

For a cash flow hedge, the effective portion is the lower of the cumulative gain/loss on the hedging instrument ($60,000 loss) and the cumulative change in fair value of the hedged item ($50,000 in absolute terms). So OCI takes $50,000 loss. The excess $10,000 ineffective portion goes to profit or loss. Option B ignores the lower-of test.

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