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- Title
Alternative Approaches to Testing Hedge Effectiveness under SFAS No. 133.
- Authors
Finnerty, John D.; Grant, Dwight
- Abstract
INTRODUCTION: Statement of Financial Accounting Standards (SFAS) No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended by SFAS No. 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities--An Amendment of FASB Statement No. 133, prescribes comprehensive new rules for accounting for derivative instruments (FASB 1998, 2000). SFAS No. 133 (para. 3) standardizes the accounting treatment for derivative instruments by requiring all entities to report their derivatives as assets and liabilities on the balance sheet and to measure them at fair value. Reporting changes in the fair value of a derivative in earnings each quarter could create a matching problem. If the derivative is being used as an economic hedge, changes in the value of the derivative might increase (or decrease) reported earnings one period while the opposite change in the value of the hedged item affects earnings in a later period. To avoid distorting earnings, SFAS No. 133 (paras. 3, 20, and 28) permits firms to match the timing of the gains and losses of hedged items and their hedging derivatives, provided the derivative qualifies as a 'highly effective' hedge. For a fair-value hedge, SFAS No. 133 (para. 22) permits the hedger to record the change in the fair value of the hedged item concurrently with the gain or loss on the hedging derivative. In the case of a cash-flow hedge, the effective portion of any changes in the hedging derivative's fair value is recorded in other comprehensive income until the change in the value of the hedged item is recognized in earnings (SFAS No. 133, para. 30).[1] In principle, a hedge is highly effective if the changes in fair value or cash flow of the hedged item and the hedging derivative offset each other to a significant extent. Hedged item refers to an asset or a liability or a prospective cash inflow or outflow. Derivative refers to any derivative or combination of derivatives used to hedge changes in fair...
- Subjects
HEDGING (Finance); ACCOUNTING standards; FAIR value; CASH flow; DERIVATIVE securities; CASH management
- Publication
Accounting Horizons, 2002, Vol 16, Issue 2, p95
- ISSN
0888-7993
- Publication type
Article
- DOI
10.2308/acch.2002.16.2.95