You are on page 1of 7

DERIVATIVES

Derivative Financial Instruments create rights & obligations that have the effect of
transferring between the parties to the instrument the financial risks inherent in an
underlying primary financial instrument.
CHARACTERISTICS OF DERIVATIVES:
1. The value of the derivative changes in response to the change in an underlying
variable.
2. The derivative requires either no initial net investment or an initial net investment.
3. The derivative is readily settled at a future date by a net cash payment.
HEDGING: designating one or more hedging instruments so that the change in Fair Value
or cash flows is an offset, in whole or in part, to the change in fair value of cash flows of
a changed item.
HEDGING INSTRUMENT: the derivative whose fair value or cash flows would be expected
to offset changes in the fair value or cash flows of the hedged item.
HEDGED ITEM: is an asset, liability, firm commitment, highly probable forecast
transaction or net investment in a foreign operation.
MEASUREMENT OF DERIVATIVES:
-

@ Fair Value
Both the fair value & notional shall be fully disclosed.
A gain or loss is recognized when there is change in the fair value.

TYPES OR HEDGING RELATIONSHIP:


1. CASH FLOW HEDGE
Rules:
a. The derivative or hedging instrument is measured at Fair Value.
b. Change in FV is recognized as component of OCI to the extent that the hedge
is effective.
c. The ineffective portion is recognized in P/L.
d. The hedge item is not adjusted to conform w/ FV.
2. FAIR VALUE HEDGE
Rules:
a. The derivative or hedging instrument is measured at Fair Value.
b. The hedged item is also measured at FV in contrast w/ a cash flow hedge
where the hedged item is not adjusted.
c. The changes in FV are recorded in P/L.
EXAMPLES OF DERIVATIVES:
1. INTEREST RATE SWAP: a contract whereby two parties agree to exchange cash
flows for future interest payments based on a contract of loan.

2. FORWARD CONTRACT: a commitment to purchase or sell a specified commodity on


a future date at a specified price.
3. FUTURES CONTRACT: a contract to purchase or sell a specified commodity at some
future date at a specified price. Traded in a futures exchange market.
4. OPTION: contract that gives the holder the right to purchase or sell an asset at a
specified price during a definite period at some future time.
5. FOREIGN CURRENCY FORWARD CONTRACT: a contract with a bank or any financial
institution to the effect that if the exchange rate proves unfavorable to the entity
bec. the exchange rate of the peso increases, the bank shall pay the entity for the
difference in the exchange rate.
EMBEDDED DERIVATIVE: is a component of a hybrid or combined contract that also
includes a nonderivative host contract with the effect that some of the cash flows of the
combined contract vary in a way similar to a stand-alone derivative.
SAMPLE:
Yuboc Company received a two-year variable interest rate loan of P5,000,000 on Jan. 1,
2013. The interest on the loan is payable on Dec. 31 of each year and the principal is to
be repaid on Dec. 31, 2014.
On Jan. 1, 2013, Yuboc Company entered into a receive variable, pay fixed interest rate
swap agreement with a speculator bank designated as a cash flow hedge.
The interest rate for 2013 is the prevailing interest rate of 10% and the rate in 2014 is
equal to the prevailing interest rate on Jan. 1, 2014. The market rate of interest on Jan. 1,
2014 is 7% & the present value of 1 @ 7% for one period is .935.
What amount should be reported on Dec. 31, 2013 as interest rate swap payable?
________________

PROPERTY, PLANT AND EQUIPMENT


Tangible assets that are held for use in production or supply of goods or services, for
rental to others, or for administrative purposes, and are expected to be used during
more than one period.
MEASUREMENT AT RECOGNITION:
-

@ COST
o purchase price
o costs directly attributable to bringing the asset to the location & condition
necessary for it to be capable of operating in the manner intended by the
management.

o Initial estimate of the costs of dismantling & removing the item & restoring the
site on w/c it is located.
MEASUREMENT AFTER RECOGNITION:
-

COST MODEL: cost less any accumulated depreciation & any accumulated
impairment loss.
REVALUATION MODEL: Fair Value at the date of revaluation less any subsequent
accumulated depreciation & subsequent accumulated impairment loss.

WAYS OF ACQUIRING PROPERTY


1. CASH BASIS
o Cost of PPE is the cash price equivalent at the recognition date.
o Cost is equal to the cash paid plus directly attributable costs.
2. ON ACCOUNT SUBJECT TO CASH DISCOUNT
o Cost of the asset is equal to the invoice price minus the discount, regardless of
whether the discount is taken or not.
3. ON INSTALLMENT BASIS
o If an asset is offered at a cash price & at an installment price & is purchased at
the installment price, the asset shall be recorded at the cash price.
o The excess of the installment price over the cash price is treated as an interest
to be amortized over the credit period.
o If there is no available cash price, the asset is recorded at an amount equal to
the present value of all payments using an implied interest rate.
4. ISSUANCE OF SHARE CAPITAL
o Measured at an amount equal to the ff:
Fair Value of the property received
Fair Value of the share capital
Par Value or stated value of the share capital
5. ISSUANCE OF BONDS PAYABLE
o Measured in the ff. order:
Fair value of bonds payable
Fair value of asset received
Face value of bonds payable
6. EXCHANGE
o Exchange - no cash is involved (w/ COMMERCIAL SUBSTANCE)
Fair value of property given
Fair value of property received
Carrying amount of property given
o Exchange cash is involved
Fair value of asset given plus cash payment Payor
Fair value of asset given minus cash received Recipient

o Exchange - NO COMMERCIAL SUBSTANCE


Measured @ Carrying amount of the asset given up
No gain or loss is recognized when the exchange lacks commercial
substance.
Any cash involved is added to (Payor) or deducted (Recipient) from the
Carrying amount.
o Trade In
Fair Value of asset given plus cash payment.
Trade in value of asset given plus cash payment.
7. DONATION
o Expenses incurred in connection with the donation shall be charged to the
donated capital account.
o Directly attributable costs incurred shall be capitalized.
o Capital gifts or grants shall be recorded at their fair value when they are
received or receivable.
8. CONSTRUCTION
o Cost of self-constructed asset includes:
Direct cost of materials
Direct cost of labor
Indirect cost & incremental overhead specifically identifiable or traceable
to the construction.
DERECOGNITION
Cost of PPE together with the related accumulated depn shall be removed from
the accounts.
Gain or loss from derecognition shall be included in P/L.
Gains shall not be included in revenue but treated as other income.
PROPERTY CLASSIFIED AS HELD FOR SALE
Measured at lower of its carrying amount or the fair value less cost to sell.
Shall not be depreciated.
IDLE OR ABANDONED PROPERTY
Optional Disclosures:
o The carrying amount of temporarily idle PPE.
o The gross carrying amount of any fully depreciated PPE still in use.
o The carrying amount of PPE retired from active use & classified as held for
sale.
o When the cost model is used, the fair value of PPE when this is materially
different from the carrying amount.

SAMPLE:

On Aug. 1, 2013, Rivera Company purchased a new machine on a deferred payment


basis. A down payment of P100,000 was made & 4 monthly installments of P250,000
each are to be made beginning of Sept. 1, 2013. The cash equivalent price of the
machine was P950,000. The entity incurred & paid installation costs amounting to
P30,000. What is the amount to be capitalized as cost of the machine? ______________

Name:

Score:

Galido Company requires 20,000 kilos of soya beans each month in its operations. To
eliminate the price risk associated with the purchase of soya beans, on Dec. 1, 2014, the
entity entered into a futures contract as a cash flow hedge to buy 20,000 kilos of soya
beans at P150 per kilo on March 1, 2015.
The market price on Dec. 31, 2014 and March 1, 2015 is P160 per kilo. The appropriate
discount rate is 9% and the present value of 1 at 9% for one period is .917.
What amount should be recognized on Dec. 31, 2014 as derivative asset or liability?
_____________________

At the beginning of the current year, Alabat Company traded in an old machine having a
carrying amount of P1,680,000 and paid a cash difference of P600,000 for a new
machine having a cash price of P2,050,000. What amount of loss should be recognized
on the exchange? _____________________

Name:

Score:

Galido Company requires 20,000 kilos of soya beans each month in its operations. To
eliminate the price risk associated with the purchase of soya beans, on Dec. 1, 2014, the
entity entered into a futures contract as a cash flow hedge to buy 20,000 kilos of soya
beans at P150 per kilo on March 1, 2015.
The market price on Dec. 31, 2014 and March 1, 2015 is P160 per kilo. The appropriate
discount rate is 9% and the present value of 1 at 9% for one period is .917.
What amount should be recognized on Dec. 31, 2014 as derivative asset or liability?
_____________________

At the beginning of the current year, Alabat Company traded in an old machine having a
carrying amount of P1,680,000 and paid a cash difference of P600,000 for a new
machine having a cash price of P2,050,000. What amount of loss should be recognized
on the exchange? _____________________