Question

During Year 4, R Corp., a manufacturer of chocolate candies, contracted to purchase 100,000 pounds of cocoa beans at $1.00 per pound, with delivery to be made in the spring of Year 5. Because a record harvest is predicted for Year 5, the price per pound for cocoa beans had fallen to $.80 by December 31, Year 4. Of the following journal entries, the one that would properly reflect in Year 4 the effect of the commitment of R Corp. to purchase the 100,000 pounds of cocoa is:

Answer 1

December 31, Year 4 (recognition of loss on purchase commitments)

• Dr Loss on Purchase Commitments account 20,000
• Cr Accrued Loss on Purchase Commitments account 20,000

Step-by-step explanation:

Since the price of cocoa beans lowered by 20%, the company lost money on its purchase commitments:

Purchase commitments loss = contracted price - market value = $100,000 - $80,000 = $20,000

The loss on purchase commitments is an expense, and accrued loss on purchase commitments is a liability.