On December 1, 2001 Pimlico made sales to a customer in India and recorded Accounts Receivable of 10,000,000 rupees. The customer has until March 1, 2002 to pay. On December 1, 2001, Pimlico paid $500 for a put option to sell rupees at a strike price of $2.30 per 100 rupees on March 1, 2002, which was the spot rate on December 1, 2001. On December 31, 2001, the spot rate was $2.80 per 100 rupees and the option premium was $0.004 per 100 rupees. What is the foreign currency exchange gain or loss on December 31, 2001?
A) $50,000 loss
B) $50,000 gain
C) $10,000 gain
D) $10,000 loss

Question

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On December 1, 2001, Pimlico made sales to a customer in India and recorded Accounts Receivable of 10,000,000 rupees. The customer has until March 1, 2002, to pay. Pimlico paid $500 for a put option to sell rupees at a strike price of $2.30 per 100 rupees on March 1, 2002, which was the spot rate on December 1, 2001.

By buying a put option, Pimlico has effectively locked in a minimum exchange rate of $2.30 per 100 rupees for the transaction, providing some price protection against adverse exchange rate fluctuations.

On December 31, 2001, the spot rate was $2.80 per 100 rupees, which means that the rupee has appreciated against the US dollar by approximately 21.7% [(2.80-2.30)/2.30].

To calculate the foreign currency exchange gain or loss, we need to consider both the account receivable and the put option:

- Accounts Receivable: The rupee has appreciated, so the value of the accounts receivable in US dollars has also gone up. The gain is $10,000 [(10,000,000 rupees * $0.50/100 rupees) x 21.7%].
- Put Option: The put option has increased in value because the underlying asset (rupees) has gone down in value. The gain is $40,000 [(10,000,000 rupees/100) x ($2.80-$2.30-$0.004)].

Therefore, the total foreign currency exchange gain is $50,000 ($10,000 + $40,000), which is option B.

On December 1, 2001 Pimlico Made Sales to a Customer