On January 1, 2021, Fresh Foods Issues $5,000,000 in 3-Month

Essay

On January 1, 2021, Fresh Foods issues $5,000,000 in 3-month 2% notes. Fresh Foods wants to hedge against higher interest rates when it renews its notes on April 1, so on January 1, 2021, the company sells short $5,000,000 in Treasury bill futures, due in 3 months, at 98.5. The futures are a qualified cash flow hedge of the forecasted renewal of the notes. There is no margin deposit. The market interest rate increases to 2.8% on April 1, 2021, Fresh Foods closes out its futures position at 97.7 and issues new notes at 2.8%.
Required
a. Compute the gain or loss on the futures contract for the 3-month period beginning January 1, 2021.
b. On April 1, Fresh Foods closes its position and settles with the broker. Prepare the journal entry to record this transaction.
c. Prepare the journal entry to report Fresh Foods' interest expense for the 3-month period beginning April 1, 2021 and compute its effective interest rate on the notes for that period.