Question

On January 1, 2021, JPS Industries borrowed $210,000 from Austin Bank by issuing a three-year, floating rate note based on LIBOR, with interest payable semi-annually on June 30 and December of each year. JPS entered into a three-year interest rate swap agreement on January 1, 2021, and designated the swap as a cash flow hedge. The intent was to hedge the risk that interest rates will rise, increasing its semi-annual interest payments. The swap agreement called for the company to receive payment based on a floating interest rate on a notional amount of $210,000 and to pay a 6.0% fixed interest rate. The contract called for cash settlement of the net interest amount semi-annually, and the rate on each reset date (June 30 and December 31) determines the variable interest rate for the following six months. LIBOR rates in 2021 were 6.0% at January 1, 4.5% at June 30, and 7.0% at December 31. The fair values of the swap on those dates, obtained by dealer quotes, were as follows: January 1 June 30 December 31 Swap fair value $ 0 $ (2,200 ) $ 3,300 Required: 1. Calculate the net settlement on June 30, 2021. 2. Prepare journal entries for the period January 1 to December 31, 2021, to record the note payable and hedging instrument, necessary adjustments for changes in fair value, and settlement of the swap contract.

Answer 1

A) Net settlement = $1575

B) attached below is the required journal

Step-by-step explanation:

A) Calculate the net settlement on June 30 2021

June 30th net cash receipt = Received floating interest - pay fixed interest

= ($210000 * 6/100 * 1/2 ) - ( $210000 * 6/100 * 1/2 )

= $6300 - $6300

= $0 ( January to June 30th )

Dec 31st net cash payment

= Received floating interest - pay fixed interest

= ( $210000 * 4.5/100 * 1/2 ) - ( $210000 * 6/100 * 1/2 )

= 4725 - 6300 = $1575 (June to December)