Students Are Allowed to Use the Following Examination Aids

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Name (Please Print)

ACCT 5341 Examination 2

Dr. Jensen

Spring 1999

Students are allowed to use the following examination aids:

·  Calculator

·  Notes that you have written yourself

·  File 1 printouts

·  File 2 printouts

Students are not allowed to use

·  Photocopies

·  Books

·  Notes or any other materials written by other students other than File 1 and File 2 printouts that were joint efforts between you and a partner.

Part 1 (Multiple Choice)

·  Choose the best answer to each question when more than one answer is correct.

·  Answers are to be recorded both on the question sheet and on the answer sheet.

·  The term “earnings” does not include “comprehensive earnings.”

Questions 1-30 Relate to SFAS 133 Theory and Rules

1.  (03 Points) What contract below is not eligible for hedge accounting under SFAS 133?
a. Embedded call option
b. Forward rate agreement
c. Covered call
d. Interest rate futures

2.  (03 Points) The price of a block of 10,000 options may be different than the price of a single option if all 10,000 are sold in a block. SFAS 133 requires a fair market value blockage adjustment as follows:
a. Upward
b. Downward
c. Both answers a and b above
d. Neither answers a or b above

3.  (03 Points) The price of a block of 10,000 options may be different than the price of a single option if all 10,000 are sold in a block. SFAS 133 requires a fair market value blockage adjustment as follows:
a. Upward
b. Downward
c. Both answers a and b above
d. Neither answers a or b above

4.  (03 Points) Suppose that a change in the price of a lumber inventory forecasted purchase is effectively offset by a forward cash flow hedge. The hedge may result in which of the following outcomes, relative to having no hedge, in periods prior to the purchase of the inventory?
a. The hedge may reduce reported earnings prior to the transaction.
b. The hedge may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the price movements.
d. None of the above since this hedge does not affect reported earnings prior to the purchase transaction or dedesignation.

5.  (03 Points) Suppose that a change in the price of gold inventory forecasted sale is effectively offset by a forward contract cash flow hedge. The hedge may result in which of the following outcomes (relative to having no hedge in periods prior to the sale of the inventory)?
a. The hedge may reduce reported earnings prior to the transaction.
b. The hedge may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the price movements.
d. None of the above since gold cannot be a hedged item under SFAS 133.

6.  (03 Points) Suppose that a change in the price of a lumber inventory forecasted purchase is effectively offset by a forward cash flow hedge. The hedge may result in which of the following outcomes, relative to having no hedge, in periods prior to the purchase of the inventory?
a. The hedge may reduce reported earnings prior to the transaction.
b. The hedge may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the price movements.
d. None of the above since this hedge does not affect reported earnings prior to the purchase transaction or dedesignation.

7.  (03 Points) Suppose that a change in the price of gold inventory forecasted purchase is effectively offset by a forward contract cash flow hedge. The hedge may result in which of the following outcomes (relative to having no hedge in periods prior to the purchase of the inventory)?
a. The hedge may reduce reported earnings prior to the transaction.
b. The hedge may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the price movements.
d. None of the above since gold cannot be a hedged item under SFAS 133.

8.  (03 Points) Suppose that a change in the price of a lumber inventory forecasted purchase is hedged by a call option designated in advance as a cash flow hedge. An ineffective hedge will result in which of the following outcomes relative to an effective hedge in periods prior to the sale of the inventory?
a. Ineffectiveness may reduce reported earnings prior to the transaction.
b. Ineffectiveness may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the hedge’s ineffectiveness.
d. None of the above since ineffectiveness does not affect reported earnings prior to the sale transaction.

9.  (03 Points) Suppose that a change in the price of a lumber inventory forecasted sale is hedged by a put option designated in advance as a cash flow hedge. An ineffective hedge will result in which of the following outcomes relative to an effective hedge in periods prior to the sale of the inventory?
a. The hedge may reduce reported earnings prior to the transaction.
b. The hedge may increase reported earnings prior to the transaction.
c. Both answers a and b are possible depending upon the direction of the price movements.
d. None of the above since this hedge does not affect reported earnings prior to the sale transaction.

10.  (03 Points) Suppose a forward contract is used as a fair value foreign currency hedge of an asset denominated in Mexican pesos. Hedge effectiveness is judged by comparing changes in the fair value of the forward contract with changes in the fair value of the U.S. dollar vis-à-vis the peso. What will be the impact of hedge ineffectiveness?
a. No impact since only cash flow hedges are subject to hedge accounting that may be judged ineffective.
b. No impact if the asset is an available-for-sale security denominated in pesos.
c. No impact if the asset is a firm commitment at a future date rather than an available-for-sale asset.
d. None of the above answers are correct.

11.  03 Points) AggiesInternational Corporation faces the risk of price declines on its forecasted sales of corn, soybeans, and rice to Japan. Sales quantities are also uncertain. As a hedge, this company enters into a contract (with a $0 premium) to sell as much as it wants to the Shimura Company for a contracted fixed price and contracted proportions of all three grains per ton. In other words, for a fixed price and fixed proportions, AggiesInternational has an option to sell as much as it wants to Shimura for a period of six months. Can this option be a cash flow hedge under SFAS 133 rules.
a. No because the notional is not fixed, and no because the forecasted transaction is a compounding of three grains subject to varying price risks.
b. No because the notional is not fixed even though it would otherwise be yes since the forecasted transaction contains fixed proportions of grains for which there is a single variable (portfolio) price per ton that can be hedged.
c. Yes because the notional is fixed but no, in the final analysis, because the forecasted transaction is a compounding of three grains subject to varying price risks.
d. Yes because the notional is fixed, and yes since the forecasted transaction contains a fixed proportion of grains for which there is a single variable portfolio price that can be hedged.

12.  (03 Points) SFAS 133 limits hedge accounting to which of the following relationships?
a. Only cash flow hedges of derivative financial instruments.
b. Cash flow hedges of derivative financial instruments and certain fair value foreign-currency-denominated nonderivative instruments.
c. Cash flow hedges and fair value hedges that reduce market risk exposures.
d. Any derivative or nonderivative financial instrument for which there is no credit risk.

13.  (03 Points) The FASB’s stated long-term objective of having all derivative and nonderivative financial instruments booked at fair value on any reporting date would have what impact on hedge accounting?
a. This would eliminate all hedge accounting treatments for financial instruments.
b. This would have no impact on SFAS 133 hedge accounting rules unless the FASB changed SFAS 133.
c. This would eliminate cash flow hedges but not foreign currency hedge accounting.
d. Irrespective of possible answers above, the FASB has never declared that its long-term objective is to require fair value reporting of all financial instruments.

14.  (03 Points) Which of the following restrictions apply to an underlying of a derivative financial instrument?
a. The underlying must always be a market price or an interest rate derived from financial markets.
b. The underlying may be most any external index including official rainfall on a given day or the outcome of a NFL game between the Green Bay Packers versus the Minnesota Vikings.
c. The underlying may be most any index that is stated in monetary terms (thereby excluding rainfall amounts or sports scores).
d. None of the above answers are correct.

15.  (03 Points) Which of the following cannot be an underlying according to SFAS 133?
a. Sales revenue attained by one of the contracting parties.
b. Independent appraisal of a building owned by one of the contracting parties.
c. Both of the above answers are correct.
d. None of the above answers are correct.

16.  (03 Points) SFAS 133 net settlement provisions call for settlement to be in cash or in assets easily converted into cash. Which of the following does not meet the net price settlement test to qualify as a derivative financial instrument in contract between Intel Corporation and General Electric?
a. Corn prices on the Chicago Board of Trade exchange.
b. The price of a common stock of Microsoft Corporation.
c. The price of the common stock of Intel Corporation.
d. All of the above prices qualify since they are easily converted into cash in an organized market exchange.

17.  (03 Points) Which of the following embedded derivatives serves to disqualify the derivative from SFAS 133 accounting rules?
a. A prepayment option of a mortgage loan.
b. An interest-only strip embedded derivative.
c. A principal-only strip embedded derivative.
d. All of the above answers are correct.

18.  (03 Points) Which of the following types of contracts are generally excluded from SFAS 133 accounting rules (including fair market value adjustment rules)?
a. A sales contract by Intel Corporation for microprocessors manufactured by Intel.
b. A purchase contract by Dell Corporation for microprocessors to be used in Dell computers.
c. A “regular-way” securities trade contract.
d. All of the above answers are correct.

19.  (03 Points) The FASB’s Exposure Draft 162-B required that both the host contract and its embedded derivatives be accounted for as a derivative contract. What happened to this provision in SFAS 133?
a. The provision remains the same in SFAS 133.
b. The provision is changed in SFAS 133 to allow for separate treatments of derivative versus nonderivative components.
c. Nonderivative components are never allowed to be accounted for as hedges under SFAS 133.
d. Both Answers b and c above are correct.

20.  (03 Points) The “clearly-and-closely related” provisions of SFAS 133 apply mainly to which of the following?
a. A decision as to whether an embedded derivative is subject to SFAS 133 accounting rules.
b. A decision as to whether an embedded derivative will be accounted for separately from its host contract.
c. The degree of ineffectiveness of an interest rate swap contract.
d. The degree of ineffectiveness of a foreign currency hedging contract.

21.  (03 Points) For purposes of fair value measurement, SFAS 133 relies most heavily upon which prior standard?
a. SFAS 105
b. SFAS 107
c. SFAS 115
d. SFAS 131

22.  (03 Points) SFAS 133 hedge accounting rules for fair value hedges arise primarily because of?
a. Lobbying pressure by constituents (e.g., banks) to defer some derivative gains and losses in comprehensive income rather than having to book such fluctuations in earnings over the hedging period.
b. Pressures by the SEC to bring SFAS 133 rules more in line with existing international standards.
c. FASB intentions to incrementally move towards fair value accounting for all financial instruments, but the FASB feels that it is too much of a shock for constituents to abruptly shift to fair value accounting for all such instruments.
d. None of the above.

23.  (03 Points) The FASB feels that differences between forecasted transactions and firm commitments are which of the following?
a. Inconsequential and have no bearing on differences between accounting for forecasted transactions versus firm commitments since neither appear in traditional financial statements.
b. important only in foreign currency hedge accounting differences arising from firm commitments versus forecasted transactions.
c. important with respect to market price accounting differences arising from firm commitments versus forecasted transactions.
d. None of the above are correct.

24.  (03 Points) Under Paragraph 29c of SFAS 133, a forecasted transaction between a parent company and its subsidiary can be accounted for as a cash flow hedge under the conditions that:
a. Less than 100% of the voting shares of the subsidiary are owned by the parent.
b. Both parties can enter into a similar transaction with a non-related entity if it is beneficial to the consolidated entities as a whole.
c. The transaction meets certain tests as a foreign currency hedge.
d. There are no conditions in which transactions between related parties can be accounted for as a hedge under SFAS 133.