Information

 
Question
CPA-01274
Answer
The best way to understand these types of questions is by preparing the journal entries. These are the journal entries:

On 9/1/Year 1 to record the purchase (10,000 units X .55) = 5,500

Debit Inventory 5,500
Credit Accounts Payable 5,500

On December 31st, they still owe the money and now we need to adjust the accounts payable to the spot rate of $0.70 on 12/31. They now owe 10,000 units X .70 = 7,000. We need to increase the accounts payable. This is the adjustment in year #1:

Debit Foreign Currency Loss 1,500 (goes on Income Statement)
Credit Accounts Payable 1,500 (to increase it)

The $1,500 loss belongs in the Income Statement for year #1.

In year #2, when they pay the rate is .65. Therefore, they paid 10,000 units X .65 = $6,500 This is the entry:

Debit Accounts Payable 7,000
Credit Cash 6,500
Credit Foreign Currency Gain 500 (goes on the Income Statement)

This gain of $500 is now reported in year #2's Income Statement. 
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