Hedge Accounting

CFA Level II
#1

Can anyone shed some light on this EOC question, page 342, question 6:

“The company hedges its exposure to the risk of higher raw material and energy prices by purchasing commodity and energy futures contracts in the open market. It accounts for these derivatives as hedging instruments. For the fiscal year ended 31 December 2010, 94% of hedges were effective in offsetting gains and losses in raw materials and energy price changes.”

What impact did the derivatives (futures contracts) have on Food-for-All’s 2010 financial statements?

a) The gains or losses on the hedges were recognised in net income.

b) The ineffective portions of the hedges were recognised in net income.

c) The effective portion of the hedges were recognised in comprehansive income.

The way I understand it is that the hedge is a cash flow hedge. Therefore changes in value of the effective portion of the hedge will be presented in equity and changes in the value of the ineffective portion will be presented in the income statement. The answer is c) and I understand that is correct. But has anyone got any suggestions as to why b) is incorrect???

#2

i think this might be a mistake. I emailed the CFA institute about it and they just said the answer is consistent with the textbook, without explaining why. I thought that all ineffective portions of hedges went through income statement.

anyone else have any ideas?

#3

I think you are both right. Ineffective through the IS Effective straight to OCI. It is sad that the second I wrote that first sentence I immediatly thought about how it would violate clean surplus accounting.

#4

deleted

#5

Yeah I agree with you guys. There is definitely something wrong about the question.

#6

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#7

I know it’s only one question but I was starting to get incredibly angry since I was 100% sure both answers were correct! Very poor from CFAI, no errata either!