Reference no: EM131705403

Question: On June 1, Year 1, Tsanumis Corporation (a U.S.-based manufacturing firm) received an order to sell goods to a foreign customer at a price of 1 million euros. The goods will be shipped and payment will be received in three months on September 1, Year 1. On June 1, Tsanumis Corporation purchased an option to sell 1 million euros in three months at a strike price of $1.00. The option is properly designated as a fair value hedge of a foreign currency firm commitment. The fair value of the firm commitment is measured through reference to changes in the spot rate. Relevant exchange rates and option premiums for the euro during Year 1 are as follows:

                                                                                           Call Option Premium
                                                                                                               for September 1, Year 1
Date                                                                    Spot Rate                    (strike price 51.00)

June 1                                                        $1.00                            $0.010

June 30                                                        0.99                              0.015

September 1  .............................................. 0.97

Tsanumis Corporation's incremental borrowing rate is 12 percent. The present value factor for two months at an annual interest rate of 12 percent (1 percent per month) is 0.9803. Tsanumis Corporation must close its books and prepare its second-quarter financial statements on June 30.

Required: Prepare journal entries for the foreign currency option and firm commitment. What is the impact on Year 1 net income? What is the net cash inflow resulting from the sale of goods to the foreign customer?