# Interest Rate Swap Contract Had a Debit Balance - Excel

Document Sample

```					A Startup Journal for Introducing FAS 133
Bob Jensen at Trinity University
Date Account                        Debit                Credit         Balance
01/01/01 Futures margin                 0                                   \$0
Cash                                      0              \$0
-Starting derivatives contract at fair value
01/01/01 Forward contract                      0                            \$0
Cash                                         0              \$0
-Starting derivatives contract at fair value
01/01/01 Swap                                  0                            \$0
Cash                                     0              \$0
-Starting derivatives contract at fair value
01/01/01 Purchased option                  10,000                         \$10,000
Cash                                      10,000          (\$10,000)

01/01/01 Cash                              20,000                         \$20,000
Written option                        20,000          (\$20,000)
-Starting derivatives contract at fair value

Date Account                              Debit          Credit       Balance
01/30/01 Futures margin                  1,000,000                    \$1,000,000
?????                                   1,000,000   (\$1,000,000)
-Speculation settlement change

What was the entry prior to FAS 133?                      Answer

01/30/01 ?????                 1,900,000                              \$1,900,000
Earnings                100,000                               \$100,000
Forward Contract                         2,000,000   (\$2,000,000)
-Balance sheet hedged item formerly booked at historical cost
(Assume a fair value hedge)
What was the entry prior to FAS 133?                    Answer

01/30/01 ?????                 1,900,000                              \$1,900,000
Earnings                100,000                               \$100,000
Forward Contract                      2,000,000      (\$2,000,000)
-Balance sheet hedged item normally carried at market value

What was the entry prior to FAS 133?

01/30/01 ?????                 1,900,000                              \$1,900,000
Earnings                100,000                               \$100,000
Forward Contract                      2,000,000      (\$2,000,000)
-The hedged item a security classified as available-for-sale (AFS) under FAS 115

01/30/01 ?????                 1,900,000                              \$1,900,000
Earnings                100,000                               \$100,000
Forward Contract                      2,000,000      (\$2,000,000)
-The hedged item a security classified as held-to-maturity (HTM) under FAS 115
What was the entry prior to FAS 133?

01/30/01 ?????                         3,500,000                      \$3,500,000
Earnings                                      250,000        (\$250,000)
Swap                                  3,250,000      (\$3,250,000)
-Unbooked firm commitment fair value hedge

What was the entry prior to FAS 133?

01/30/01 Purchased option               500,000                          \$510,000
Earnings                        20,000                          \$20,000
?????                                  520,000          (\$520,000)
-Unbooked forcasted transaction cash flow hedge
Assume the hedge is perfectly effective.
What was the entry prior to FAS 133?
01/30/01 ?????                         800,000                   \$800,000
Written option                     800,000   (\$820,000)
-Economic hedge not qualified for hedge accouting

What was the entry prior to FAS 133?
Paragraph 28c special rules for written options.

Enron Comment
under FAS 115

under FAS 115
Comparison of Fixed-Rate Versus Floating Rate Debt of a Constant Value
Bob Jensen at Trinity University

Fixed-Rate Bonds            Floating-Rate Debt          Current
Date Account                           Debit    Credit     Value     Debit      Credit    Value     Rate
01/01/01 Cash                           100,000            (\$100,000) 100,000             (\$100,000) 5.00%
Bonds payable               100,000 (\$100,000)              100,000 (\$100,000) 5.00%
-Initial issuance of Debt

06/01/01 Interest expense                5,000              (\$93,198)     6,000              (\$100,000) 6.00%
Cash                            4,500    (\$93,198)               6,000    (\$100,000) 6.00%
-Payment of interest expense

01/01/02 Interest expense                5,000              (\$106,733)    4,000              (\$100,000) 4.00%
Bond discount                    323     (\$106,733)                0      (\$100,000) 4.00%
Cash                            4,500    (\$106,733)              4,000    (\$100,000) 4.00%
-Payment of interest expense

01/01/01 Interest expense                5,000              (\$100,000)    5,000              (\$100,000) 5.00%
Bond discount                    323     (\$100,000)                0      (\$100,000) 5.00%
Cash                            4,500    (\$100,000)              5,000    (\$100,000) 5.00%
-Payment of interest expense

01/01/01 Bonds payable                  100,000                \$0        100,000                \$0
Cash                           100,000      \$0                  100,000      \$0
-Payoff of bonds
Comparison of Fixed-Rate Versus Floating Rate Debt of a Constant Value
Bob Jensen at Trinity University

Fixed-Rate Bonds             Floating-Rate Debt
Date Account                           Debit     Credit     Value       Debit
01/01/01 Cash                           96,139              (\$96,139)    96,139
Bond discount                   3,861              (\$96,139)     3,861
Bonds payable                100,000 (\$96,139)
-Initial issuance of Debt

06/01/01 Interest expense                4,807              (\$90,685)     7,924
Bond discount                    307     (\$90,685)
Cash                            4,500    (\$90,685)
-Payment of interest expense

01/01/02 Interest expense                4,823              (\$103,001)    2,686
Bond discount                    323     (\$103,001)    1,246
Cash                            4,500    (\$103,001)
-Payment of interest expense

01/01/01 Interest expense                4,823              (\$100,000)    5,437
Bond discount                    323     (\$100,000)
Cash                            4,500    (\$100,000)
-Payment of interest expense

01/01/01 Bonds payable                  100,000                \$0        100,000
Cash                           100,000      \$0
-Payoff of bonds
Floating-Rate Debt             Current
Credit       Value    Rate
(\$96,139) 5.00%
(\$96,139) 5.00%
100,000      (\$96,139) 5.00%

(\$98,295)   6.00%
2,156       (\$98,295)   6.00%
5,768       (\$98,295)   6.00%

(\$99,541)   4.00%
(\$99,541)   4.00%
3,932       (\$99,541)   4.00%

(\$100,000) 5.00%
452        (\$100,000) 5.00%
4,985       (\$100,000) 5.00%

\$0
100,000         \$0
Warning: This file is best viewed in Excel software rather than in a web browser.
Analysis Assuming a Perfect Hedge With No Ineffectiveness
Page 112 of Managing Financial Risk for Globex
Cash Flow Hedge of Variable-Rate Interest-Bearing Debt

Globex
Page 112 of Managing Financial Risk
Annual             LIBOR             Swap                             Annual
LIBOR               Plus          Receivable                          LIBOR
Year               Rate             0.9000%        LIBOR+.0055           Date             Rate
0               5.5600%            6.4600%           6.1100%          07/01/00        0.055600
1               5.5600%            6.4600%           6.1100%          07/01/01        0.055600
2               7.6300%            8.5300%           8.1800%          07/01/02        0.076300
3               9.5600%           10.4600%          10.1100%          07/01/03        0.095600
4              10.4700%           11.3700%          11.0200%          07/01/04        0.104700
5              11.7500%           12.6500%          12.3000%          07/01/05        0.117500

Globex Summary of Cash Transactions                                                           Bond Interest
Bond        Interest Rate         Note             Bond            Plus
Interest         Swap             Payoff          Proceeds      Swap Payment
Sources of Cash:
7/1/2000                                                      (\$100,000,000)

Applications of Cash:
07/01/01             6,460,000        2,990,000                                            9,450,000
07/01/02             8,530,000          920,000                                            9,450,000
07/01/03            10,460,000       (1,010,000)                                           9,450,000
07/01/04            11,370,000       (1,920,000)                                           9,450,000
07/01/05            12,650,000       (3,200,000)                                           9,450,000
\$49,470,000     (\$2,220,000) \$100,000,000          \$147,250,000
Globex Unhedged            Net decrease in cash =          \$47,250,000      \$47,250,000
Uncertain Cost of Loan                                             Certain (hedged) Cost of Loan

The journal entries corresponding to the above outcomes are shown below.

Debit
(Credit)
7/1/2000          Cash                                                                 100,000,000
Notes payable                                                       (100,000,000)
-To record a floating-rate rate Bond payable

7/1/2000          Cash                                                                       0
Interest rate swaps receivable/payable                                     0
-This entry is not necessary in the real world since the swap had no cost.

Debit
(Credit)
7/1/2001   Interest expense/revenue                               6,460,000
Cash                                                  (6,460,000)
-To record bond interest paid on floating rate loan

7/1/2001   Interest expense/revenue                               2,990,000
Cash                                                  (2,990,000)
-To record interest swap receipt (payment)

7/1/2001   Interest rate swaps receivable/payable                (9,000,000)
OCI adjusted for changes in the swap valuation         9,000,000
Loss (gain) on swap ineffectiveness                        0
-To record change in Bond fair value

7/1/2001   Retained earnings                                      9,450,000
Interest expense/revenue                              (9,450,000)
Loss (gain) on swap ineffectiveness                        0
-To close expense and revenue accounts

Debit
(Credit)
7/1/2002   Interest expense/revenue                               8,530,000
Cash                                                  (8,530,000)
-To record bond interest paid on floating rate loan

7/1/2002   Interest expense/revenue                                920,000
Cash                                                   (920,000)
-To record interest swap receipt (payment)

7/1/2002   Interest rate swaps receivable/payable                 8,627,000
Accrued interest on swap                                686,700
OCI adjusted for changes in the swap valuation        (9,313,700)
Loss (gain) on swap ineffectiveness                        0
-To record change in Bond fair value

7/1/2002   Retained earnings                                      9,450,000
Interest expense/revenue                              (9,450,000)
Loss (gain) on swap ineffectiveness                        0
-To close expense and revenue accounts

Debit
(Credit)
7/1/2003   Interest expense/revenue                               10,460,000
Cash                                                  (10,460,000)
-To record bond interest paid on floating rate loan

7/1/2003   Interest expense/revenue                              (1,010,000)
Cash                                                   1,010,000
-To record interest swap receipt (payment)
7/1/2003   Interest rate swaps receivable/payable             390,000
Accrued interest on swap                          (651,041)
OCI adjusted for changes in the swap valuation     261,041
Loss (gain) on swap ineffectiveness                   0
-To record change in Bond fair value

7/1/2003   Retained earnings                                 9,450,000
Interest expense/revenue                         (9,450,000)
Loss (gain) on swap ineffectiveness                   0
-To close interest expense/revenue

Debit
(Credit)
7/1/2004   Interest expense/revenue                          11,370,000
Cash                                             (11,370,000)

7/1/2004   Interest expense/revenue                         (1,920,000)
Cash                                              1,920,000
-To record interest swap receipt (payment)

7/1/2004   Interest rate swaps receivable/payable            1,683,000
Accrued interest on swap                           (37,439)
OCI adjusted for changes in the swap valuation   (1,645,561)
Loss (gain) on swap ineffectiveness                   0
-To record change in Bond fair value

7/1/2004   Retained earnings                                 9,450,000
Interest expense/revenue                         (9,450,000)
Loss (gain) on swap ineffectiveness                   0
-To close interest expense/revenue

Debit
(Credit)
7/1/2005   Interest expense/revenue                          12,650,000
Cash                                             (12,650,000)

7/1/2005   Interest expense/revenue                         (3,200,000)
Cash                                              3,200,000
-To record interest swap receipt (payment)

7/1/2005   Interest rate swaps receivable/payable           (1,700,000)
Accrued interest on swap                            1,780
OCI adjusted for changes in the swap valuation    1,698,220
Loss (gain) on swap ineffectiveness                   0
-To record change in Bond fair value
7/1/2005   Retained earnings                      9,450,000
Interest expense/revenue              (9,450,000)
Loss (gain) on swap ineffectiveness        0
-To close interest expense/revenue
Swap           Bond &        Bond            Net        Interest     Swap's
Payable          Swap        Interest        Swap         Swap      Estimated
Rate         Principal    Expense           Rate      Payment        Value
0.091000       100000000    0.000000        0.000000         0           0
0.091000       100000000     6460000       (0.029900)    2990000     (9000000)
0.091000       100000000     8530000       (0.009200)     920000      (373000)
0.091000       100000000    10460000        0.010100    (1010000)      17000
0.091000       100000000    11370000        0.019200    (1920000)     1700000
0.091000       100000000    12650000        0.032000    (3200000)        0

9.45% =Effective Locked in Hedged Rate
rtain (hedged) Cost of Loan

Balance
100,000,000
(100,000,000)

100,000,000
0
Balance
6,460,000    7/1/2001
93,540,000

9,450,000    7/1/2001
90,550,000

(9,000,000)   7/1/2001
9,000,000
0

9,450,000     7/1/2001
0
0

Balance
8,530,000    7/1/2002
82,020,000

9,450,000    7/1/2002
81,100,000

(373,000)    7/1/2002
686,700
(313,700)
0

18,900,000    7/1/2002
0
0

Balance
10,460,000    7/1/2003
70,640,000

9,450,000    7/1/2003
71,650,000
17,000      7/1/2003
35,659
(52,659)
0

28,350,000    7/1/2003
0
0

Balance
11,370,000    7/1/2004
60,280,000

9,450,000    7/1/2004
62,200,000

1,700,000    7/1/2004
(1,780)
(1,698,220)
0

37,800,000    7/1/2004
0
0

Balance
12,650,000    7/1/2005
49,550,000

9,450,000    7/1/2005
52,750,000

0         7/1/2005
0
0
0
47,250,000   7/1/2005
0
0
Accrued
Interest on
Swap
0
0
686700
35659
(1780)
0

Acknowledgments

We want to acknowledge the help from two individuals who independently fo
error in our first round of calculations. Thanks go to Peter van Amson from BankWa
Walter R. Teets from Gonzaga University. Dr. Teets and his co-author, Robert Uhl, p
book online at at http://www.gonzaga.edu/faculty/teets/index0.html.

Peter van Amson sent us a corrected version of our own spreadsheet. He also recomm
following references:

For W.R.T. swaps the standard text used in practice is the Hull Book. Options
Other Derivatives, John C. Hull it has a fairly straight forward valuation of sw
"advanced" actually just more mathematical treatment of the problem I recom
Rate Option Models, Ricardo Rebonato.

The Hull reference is as follows: John C. Hull, Options, Futures, and Other Derivati
Hall, 1999, ISBN: 0130224448)

The Rebonato referernce is as follows: Ricardo Rebonato, Interest Rate Option Mode
& Sons, Wiley Finance, 1998, ISBN 0-471-96569-3)
Other Derivatives, John C. Hull it has a fairly straight forward valuation of sw
"advanced" actually just more mathematical treatment of the problem I recom
Rate Option Models, Ricardo Rebonato.

The Hull reference is as follows: John C. Hull, Options, Futures, and Other Derivati
Hall, 1999, ISBN: 0130224448)

The Rebonato referernce is as follows: Ricardo Rebonato, Interest Rate Option Mode
& Sons, Wiley Finance, 1998, ISBN 0-471-96569-3)
als who independently found a calculation
an Amson from BankWare Inc and Dr.
co-author, Robert Uhl, provide a free
0.html.

s the Hull Book. Options, Futures and
forward valuation of swaps. For an
t of the problem I recommend Interest

ures, and Other Derivatives (Prentice-

nterest Rate Option Models (John Wiley
forward valuation of swaps. For an
t of the problem I recommend Interest

ures, and Other Derivatives (Prentice-

nterest Rate Option Models (John Wiley
See Exhibit 6-9 of Managing Financial Risk (Page 125)
Foreign Currency Swap

Contracted
Year 5
Loan Swap
Rate
2.000000
U.S.          U.S.             U.S.           U.S.             FX             Swap
Loan         Loan             Loan         Swap Rec.        DM/US\$        Swap Notional
Year       Rate        Notional        Payment           Rate         Spot Rate          in DM
0       9.7500%    (\$200,000,000)        \$0           9.7500%        2.000000        400,000,000
1       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.000000        400,000,000
2       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.050000        400,000,000
3       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.100000        400,000,000
4       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.150000        400,000,000
5       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.250000        400,000,000

The journal entries corresponding to the above outcomes are shown below.

Debit
(Credit)         Balance
0     Cash                                                         200,000,000      200,000,000
Loan payable                                                (200,000,000)    (200,000,000)
-To record a fixed rate Bond payable

0     Cash (DM400,000,000 from Germany)                          200,000,000       400,000,000
Cash (\$200,000,000 to Germany)                            (200,000,000)      200,000,000
-To record the receipt of DM400 and payment of \$200 million

0     Cash                                                               0         200,000,000
FX rate swaps receivable (payable)                                 0              0
-This entry is not necessary in the real world since the swap had no cost.

Debit
(Credit)       Balance
1     Interest expense (revenue)                                    19,500,000      19,500,000
Cash                                                         (19,500,000)    180,500,000
-To record note interest payment

1     Interest expense (revenue)                                     1,000,000      20,500,000
Cash                                                          (1,000,000)    179,500,000
-To record FX swap receipt (payment)

1     FX rate swaps receivable (payable)                             (683,013)       (683,013)
OCI adjusted for changes in the swap valuation                  683,013         683,013
-To record change in FX swap fair value
1   Retained earnings                                 20,500,000    20,500,000
Interest expense (revenue)                       (20,500,000)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
2   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   160,000,000
-To record note interest payment

2   Interest expense (revenue)                         500,000       20,000,000
Cash                                              (500,000)     159,500,000
-To record FX swap receipt (payment)

2   FX rate swaps receivable (payable)                 307,356       (375,657)
OCI adjusted for changes in the swap valuation    (307,356)       375,657
-To record change in FX swap fair value

2   Retained earnings                                 20,000,000    40,500,000
Interest expense (revenue)                       (20,000,000)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
3   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   140,000,000
-To record note interest payment

3   Interest expense (revenue)                          23,810       19,523,810
Cash                                               (23,810)     139,976,190
-To record FX swap receipt (payment)

3   FX rate swaps receivable (payable)                 355,980        (19,677)
OCI adjusted for changes in the swap valuation    (355,980)        19,677
-To record change in FX swap fair value

2   Retained earnings                                 19,523,810    60,023,810
Interest expense (revenue)                       (19,523,810)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
4   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   120,476,190
-To record note interest payment

4   Interest expense (revenue)                        (430,233)     19,069,767
Cash                                                       430,233      120,906,423
-To record FX swap receipt (payment)

4   FX rate swaps receivable (payable)                         410,798        391,121
OCI adjusted for changes in the swap valuation            (410,798)      (391,121)
-To record change in FX swap fair value

4   Retained earnings                                         19,069,767    79,093,577
Interest expense (revenue)                               (19,069,767)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
5   Interest expense (revenue)                                19,500,000     19,500,000
Loan payable                                             200,000,000          0
Cash                                                    (219,500,000)   (98,593,577)
-To record note interest payment

5   Interest expense (revenue)                               (1,277,778)     18,222,222
Cash                                                      1,277,778     (97,315,799)
-To record FX swap receipt (payment)

5   FX rate swaps receivable (payable)                        (391,121)          0
OCI adjusted for changes in the swap valuation             391,121           0
-To record change in FX swap fair value

5   Cash (\$200,000,000 from Germany)                          200,000,000   102,684,201
Interest expense (revenue)                                     0         18,222,222
Cash (DM400,000,000 to Germany)                           200,000,000   302,684,201
-To record the payment of DM400 and receipt of \$200 million

5   Retained earnings                                         18,222,222    97,315,799
Interest expense (revenue)                               (18,222,222)        0
-To close expense and revenue accounts
Discount Rate
10.00%
U.S.        U.S.           U.S.          U.S. Net          FX            Swap's            Fixed
Swap       Swap Pay.       Swap            Swap          DM/US\$         Estimated          German
Receivable     Rate         Payable      Cash In (Out) Forward Rate          Value      Borrowing Rate
\$0        10.25%          \$0              \$0          1.900000                           10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     1.920000        (\$683,013)         10.50%
\$19,500,000    10.25%     (\$20,000,000)    (\$500,000)      2.050000        (\$375,657)         10.50%
\$19,500,000    10.25%     (\$19,523,810)     (\$23,810)      2.125000         (\$19,677)         10.50%
\$19,500,000    10.25%     (\$19,069,767)     \$430,233       2.200000         \$391,121          10.50%
\$19,500,000    10.25%     (\$18,222,222)    \$1,277,778      2.250000            \$0             10.50%
\$184,201                                                Sum =
Period 5 FX loss due to converting back into U.S. dollars =
own below.                                                                                             Sum =

1

1

1
1

2

2

1

1

3

3

3

3

4

4
4

4

5

5
(97,315,799)

5

5

5
Financing          Financing           Financing
Alternative 3      Alternative 2       Alternative 1
Net In (Out)       Net In (Out)        Net In (Out)
With            Borrowing           Borrowing
FX Swap           in Germany             in U.S.
\$0                 \$0                   \$0
(\$20,500,000)      (\$21,000,000)       (\$19,500,000)
(\$20,000,000)      (\$20,487,805)       (\$19,500,000)
(\$19,523,810)      (\$20,000,000)       (\$19,500,000)
(\$19,069,767)      (\$19,534,884)       (\$19,500,000)
(\$18,222,222)      (\$18,666,667)       (\$19,500,000)
(\$97,315,799)      (\$99,689,355)       (\$97,500,000)
\$0                 \$0              \$25,000,000      = gain (loss) on speculation in FX under Alternative 1
(\$97,315,799)      (\$99,689,355)       (\$72,500,000)
Compare the above numbers to determine which strategy was best with hindsight.
Alternative 1 (borrowing in US with no swap) is best with a huge FX speculation gain
Alternative 1 (borrowing in US with no Swap) is worst with a small FX speculation gain or any speculation loss.
Alternative 3 (borrowing in US with a swap) is best if Alternative 1 FX risk is hedged or there is no huge FX speculation ga
Alternative 2 (borrowing in Germany)           is best only if a much lower borrowing rate can be negotiated in Germany
X under Alternative 1

y speculation loss.
ere is no huge FX speculation gain.
n be negotiated in Germany
In the previous example, suppose the U.S. Company also hedges cash flow risk of the interest payments
Cross-Currency Swap

Suppose that the interest rate swap hedges the swap payments
at a 2.00 DM/FX\$ rate for all payments.                                 Contracted
Year 5
Loan Swap
Rate
2.000000
U.S.          U.S.             U.S.           U.S.             FX             Swap
Loan         Loan             Loan         Swap Rec.        DM/US\$        Swap Notional
Year       Rate        Notional        Payment           Rate         Spot Rate          in DM
0       9.7500%    (\$200,000,000)        \$0           9.7500%        2.000000        400,000,000
1       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.000000        400,000,000
2       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.050000        400,000,000
3       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.100000        400,000,000
4       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.150000        400,000,000
5       9.7500%    (\$200,000,000)   (\$19,500,000)     9.7500%        2.250000        400,000,000

The journal entries corresponding to the above outcomes are shown below.

Debit
(Credit)         Balance
0     Cash                                                         200,000,000      200,000,000
Loan payable                                                (200,000,000)    (200,000,000)
-To record a fixed rate Bond payable

0     Cash (DM400,000,000 from Germany)                          200,000,000       400,000,000
Cash (\$200,000,000 to Germany)                            (200,000,000)      200,000,000
-To record the receipt of DM400 and payment of \$200 million

0     Cash                                                               0         200,000,000
FX rate swaps receivable (payable)                                 0              0
-This entry is not necessary in the real world since the swap had no cost.

Debit
(Credit)       Balance
1     Interest expense (revenue)                                    19,500,000      19,500,000
Cash                                                         (19,500,000)    180,500,000
-To record note interest payment

1     Interest expense (revenue)                                     1,000,000      20,500,000
Cash                                                          (1,000,000)    179,500,000
-To record FX swap receipt (payment)

1     FX rate swaps receivable (payable)                             (683,013)       (683,013)
OCI adjusted for changes in the swap valuation                  683,013         683,013
-To record change in FX swap fair value
1   Retained earnings                                 20,500,000    20,500,000
Interest expense (revenue)                       (20,500,000)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
2   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   160,000,000
-To record note interest payment

2   Interest expense (revenue)                        1,000,000      20,500,000
Cash                                             (1,000,000)    159,000,000
-To record FX swap receipt (payment)

2   FX rate swaps receivable (payable)                 (68,301)      (751,315)
OCI adjusted for changes in the swap valuation      68,301        751,315
-To record change in FX swap fair value

2   Retained earnings                                 20,500,000    41,000,000
Interest expense (revenue)                       (20,500,000)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
3   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   139,500,000
-To record note interest payment

3   Interest expense (revenue)                        1,000,000      20,500,000
Cash                                             (1,000,000)    138,500,000
-To record FX swap receipt (payment)

3   FX rate swaps receivable (payable)                 (75,131)      (826,446)
OCI adjusted for changes in the swap valuation      75,131        826,446
-To record change in FX swap fair value

2   Retained earnings                                 20,500,000    61,500,000
Interest expense (revenue)                       (20,500,000)        0
-To close expense and revenue accounts

Debit
(Credit)      Balance
4   Interest expense (revenue)                        19,500,000     19,500,000
Cash                                             (19,500,000)   119,000,000
-To record note interest payment

4   Interest expense (revenue)                       1,000,000      20,500,000
Cash                                                     (1,000,000)    118,000,000
-To record FX swap receipt (payment)

4   FX rate swaps receivable (payable)                         (82,645)       (909,091)
OCI adjusted for changes in the swap valuation              82,645         909,091
-To record change in FX swap fair value

4   Retained earnings                                         20,500,000    82,000,000
Interest expense (revenue)                               (20,500,000)        0
-To close expense and revenue accounts

Debit
(Credit)       Balance
5   Interest expense (revenue)                                19,500,000     19,500,000
Loan payable                                             200,000,000          0
Cash                                                    (219,500,000)   (101,500,000)
-To record note interest payment

5   Interest expense (revenue)                                1,000,000      20,500,000
Cash                                                     (1,000,000)    (102,500,000)
-To record FX swap receipt (payment)

5   FX rate swaps receivable (payable)                         909,091           0
OCI adjusted for changes in the swap valuation            (909,091)          0
-To record change in FX swap fair value

5   Cash (\$200,000,000 from Germany)                          200,000,000    97,500,000
Interest expense (revenue)                                     0         20,500,000
Cash (DM400,000,000 to Germany)                           200,000,000   297,500,000
-To record the payment of DM400 and receipt of \$200 million

5   Retained earnings                                         20,500,000    102,500,000
Interest expense (revenue)                               (20,500,000)        0
-To close expense and revenue accounts
e interest payments

Discount Rate
10.00%
U.S.        U.S.           U.S.         U.S. Net          FX          Swap's               Fixed
Swap       Swap Pay.       Swap           Swap           DM/US\$      Estimated             German
Receivable     Rate         Payable      Cash In (Out)  Forward Rate      Value         Borrowing Rate
\$0        10.25%          \$0              \$0          1.900000                           10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     1.920000     (\$683,013)            10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     2.050000     (\$751,315)            10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     2.125000     (\$826,446)            10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     2.200000     (\$909,091)            10.50%
\$19,500,000    10.25%     (\$20,500,000)   (\$1,000,000)     2.250000         \$0                10.50%
(\$5,000,000)                                              Sum =
Period 5 FX loss due to converting back into U.S. dollars =
own below.                                                                                                Sum =

1

1

1
1

2

2

1

1

3

3

3

3

4

4
4

4

5

5
(102,500,000)

5

5

5
Financing          Financing           Financing
Alternative 3      Alternative 2       Alternative 1
Net In (Out)       Net In (Out)        Net In (Out)
With            Borrowing           Borrowing
FX Swap           in Germany             in U.S.
\$0                 \$0                   \$0
(\$20,500,000)      (\$21,000,000)       (\$19,500,000)
(\$20,500,000)      (\$20,487,805)       (\$19,500,000)
(\$20,500,000)      (\$20,000,000)       (\$19,500,000)
(\$20,500,000)      (\$19,534,884)       (\$19,500,000)
(\$20,500,000)      (\$18,666,667)       (\$19,500,000)
(\$102,500,000)      (\$99,689,355)       (\$97,500,000)
\$0                 \$0              \$25,000,000      = gain (loss) on speculation in FX under Alternative 1
(\$102,500,000)        (\$99,689,355)         (\$72,500,000)
Compare the above numbers to determine which strategy was best with hindsight.
Alternative 1 turns out very badly in this case since the
dollar gained dramatically in strength. However, this would
not be the case if the dollar weakened dramatically in strength.

Perform a sensitivity analysis by changing the L15-L18 cells
to reflect a steeply declining FX rate instead of the increasing
FX rate used in the initial example.
X under Alternative 1

```
DOCUMENT INFO
Shared By:
Categories:
Stats:
 views: 78 posted: 7/21/2010 language: English pages: 42
Description: Interest Rate Swap Contract Had a Debit Balance document sample