BKAR 3033 FINANCIAL ACCOUNTING AND REPORTING 111 (A172)

MINI CASE TOPIC 4 FINANCIAL INSTRUMENTS

DUE DATE: 17 April 2018

QUESTION 1
A derivative is a financial instrument that derives its value from the value of an
underlying assets, price, rate or index.

REQUIRED:
Explain THREE (3) main characteristics of a derivative

QUESTION 2
View Bhd has the following financial assets (financial instruments) in its book:

(a) Investment held for trading purposes.

(b) Interest-bearing debt instruments that will be redeemed in 5 years.
View Bhd fully intends to hold them until redemption.
(c) Trade receivables.
(d) Derivatives held for speculation purposes.
(e) Equity shares which View Bhd has no intention of selling.

REQUIRED:
How would View Bhd classify its financial assets?

QUESTION 3
What is the purpose of cash flow hedge?

QUESTION 4
Explain THREE (3) main differences between traditional (equity instruments) and
derivative financial instruments

QUESTION 5
Diamond Bhd is a multinational company and has trading partners from many Asian countries.
At the beginning of quarter 1, Diamond Bhd purchased 50,000 ordinary shares of Gold Bhd at
RM10 per share inclusive of transaction cost. The investment is classified as AFS investment.
The closing price of Gold Bhd shares is RM12 at the end of quarter 1.

1
At the beginning of quarter 2, to protect the value of its investment in Gold Bhd, Diamond Bhd
purchases with a loan 100,000 put options that give it the right to sell Gold Bhd shares at RM12
per share within 6 months. The price paid for each put option is RM1. The quoted price for Gold
Bhd’s shares and options are as follows:
Gold Bhd prices
ordinary shares put options
End of Quarter 1 RM12.00
End of Quarter 2 RM11.00 RM1.45
End of Quarter 3 RM13.60 expired

Beginning of quarter 4, Diamond Bhd decided to discontinue with the hedging.

REQUIRED:
(a) Prepare the required journal entries for Quarter 1.
(b) Prepare the required journal entries for Quarter 2. Calculate the effective rate of the
hedging strategy in Quarter 2.
(c) Prepare the required journal entries and calculate the effective rate of the hedging
strategy in Quarter 3.

QUESTION 6

Cille Bhd owns inventories of 10,000 tons of steel which cost RM100,000 on 1
December 2016. If the price of steel falls, Cille Bhd will suffer a loss when they sell
the steel. To minimise this risk, it enters into futures contract to sell 10,000 tons of
steel for RM120,000 on 1 February 2017 (at a price of RM12 per ton).

At the year end of 31 December 2016, the market value of steel is RM9 per ton and
the futures price for delivery on 1 February 2017 is RM11 per ton.

REQUIRED:
a) What is the hedge item?
b) What is the hedging instrument?
c) What is the impact of the fair value hedge on the financial statement of Cille
Bhd at 1 December 2016?

2
QUESTION 7

Cetaphil Bhd (CB) is a leading pharmaceutical company located in Subang Jaya, Malaysia. CB
has many overseas contracts dealing with new and promising drugs. In order to diversify its
business, on 30 June 2016 CB entered into a forward contract with Sebamed Bhd to purchase
1,000,000 of Soothing Bhd in an anticipation that the share price of Sejahtera Bhd will rise in
the next 6 months. The following information was available at the date of transaction:

Maturity date: 31 December 2016

Share price of Soothing Bhd on 30 June 2016 RM5 per share
6-Month risk free rate: 6 per cent (annual)
Dividend yield of Soothing Bhd Shares 3 per cent (annual)
The financial year of Cetaphil Bhd 30 September

Assume that the market price of Soothing Bhd increased to RM5.10 on 30 September 2016 and
closed at RM5.50 at maturity date.

REQUIRED:

(a) Compute the forward price of the forward contract for CB on the contact date, 30 June
2016.
(b) Compute the forward price of the forward contract for CB and calculate any gain or loss
at year end, 30 September 2016. Prepare the journal entries.
(c) Compute the forward price of the forward contract for CB and determine any gain or loss
at maturity, 31 December 2016. Prepare the journal entries.
(d) Assume a net settlement basis; record the journal entries to account for the forward
purchase for CB on 31 December 2016.
(e) Prepare the journal entries, assuming gross physical settlement on 31 December 2016.

QUESTION 8
On 15 August 2017, Borneo Berhad invested idle cash by purchasing a call option on
Blue Chip Berhad ordinary shares for RM360. The notional value of the call option is
400 shares and the option price is RM40. The Market price of Blue Chip Berhad on 15
August 2017 is RM40. The option expires on 31 January 2018. The following data are
available with respect to the call option.

Date Market price per share of Time value of call option

Blue Chip Berhad
30 September 2017 RM48 RM180
31 December 2017 RM46 RM65
15 January 2018 RM47 RM30

3
REQUIRED
Prepare the journal entries for Borneo Berhad on the following dates:
(a) Investment in call option on 15 August 2017.
(b) Preparing the quarterly reports on 30 September 2017.
(c) Preparing the annual reports on 31 December 2017.
(d) Settlement of the option on 15 January 2018.

QUESTION 9
Gentayu Berhad uses titanium in the production of its specialty drivers. Gentayu
anticipates that it will need to purchase 200 ounces of titanium in October 2017, for the
special equipment that will be shipped in the holiday shopping season. However, if the
price of titanium increases, this will increase the price to produce the equipment,
which will result in lower profit margins.

To hedge the risk of increase titanium prices, Gentayu enters into a titanium futures
contract on 1 May 2017 and designates this futures contract as cash flow hedge of the
anticipated titanium purchase. The notional amount of the contract is 200 ounces, and
the terms of the contract give Gentayu the right and obligation to purchase titanium at
a price of RM50,000 per ounce. The price will be good until the contract expires on 30
November 2017. Assume the following data with respect to the price of the call options
and titanium inventory purchase.

Date Spot price (RM) for December delivery

1 May 2017 50,000 per ounce
30 June 2017 52,000 per ounce
30 September 2017 52,500 per ounce

REQUIRED:

(a) Prepare the journal entries from 1 May to 30 September 2017.

(b) Prepare the journal entries on 5 October 2017, when Gentayu purchases 200
ounces of titanium at RM52,500 per ounce and settles the future contracts.
(c) Prepare the journal entries on 15 December 2017, when Gentayu sells the
equipments containing titanium purchased in October 2017 for RM25,000,000.
The cost of finished goods inventory is RM14,000,000.
(d) Prepare an excerpt of Statement of Profit and Loss and Other Comprehensive
Income for Gentayu Berhad in relation to the futures contract and the inventory
transaction on 31 December 2017.