Question:
Newton Grains plans to sell 100,000 bushels of corn from its current inventory in March 2015. The company paid $1 million for the corn during the fall 2014 harvest season. On October 1, 2014, Newton writes a forward contract to sell 100,000 bushels of corn on March 15, 2015, for $1,100,000. The forward contract has zero value at inception. On December 31, 2014, the March forward price for corn is $1,050,000 and the forward contract has a fair value of $95,000. On March 15, 2015, Newton sells the corn for $1,075,000 and settles the forward contract (now valued at $25,000).
Required:
1. Why did Newton hedge its planned sale of corn? Was it a good idea to do so?
2. Newton designated the forward contract as a cash flow hedge of its exposure to corn price fluctuations. What journal entries were made when the forward contract was signed on October 1, 2014?
3. What journal entries were made on December 31, 2014?
4. What journal entries were made on March 15, 2015, when the forward contract was settled and Newton sold the corn?
5. How would your original journal entries change if the forward contract covered only 50,000 bushels of corn? (Contract fair values would then have been $47,500 on December 31, 2014, and $12,500 on March 15, 2015.)