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Hedging-Part-3
IAS-21 & IAS-39
Cash Flow Hedges:
A cash flow hedge is where:
 A derivative is used to hedge the future cash flows (other than for currency risk)
on a recognised asset or liability, for example of the interest cash flows on a
floating rate liability;
 A derivative is used to hedge future cash flows (other than for currency risk) on a
future contracted, or un-contracted but highly probable transaction;
 A derivative or non-derivative is used to a hedge foreign currency risk of future
cash flows on a recognised asset or liability; or
 A derivative or non-derivative is used to a hedge foreign currency risk of future
cash flows on a future contracted, or un-contracted but highly probable
transaction.
A financial item may be hedged with respect to any one or more of its individual risks
whereas a hedge relating to a non-financial item must be with respect to all of its risks
or solely currency risk.
The hedged risk must be one that would affect the income statement such that, for
example, forecast share issues or repurchases cannot be hedged. There is no
equivalent of the US rule that the hedged item must not be one that is remeasured to
fair value through the income statement. The IGC purposes to clarify that the interest
rate risk on a floating rate held-to-maturityasset may not be hedged.
There is no explicit requirement that in consolidated accounts the hedge and the
hedged item must be in the same group member. However, in our view it is not
possible for the hedge and the hedged item to be in different currency entities.
Accounting:
The hedge is stated at fair value with changes therein, insofar as they are an effective
hedge, initially taken directly to equity. They are later recycled out of the equity when
the future transactioneither;
 Results in an asset or liability, when the cumulative amount is recycled as an
adjustment to the cost of that asset or liability; or

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 Otherwise affects the income statement in which case the cumulative amount is
recycled into the income statement.
To the extent that the hedge is ineffective the gains and losses are immediately dealt
with in the normal way, for example in the income statement if the hedge is a
derivative or in the income statement if the hedge is a derivative or in the income
statement or in equity according to the company’s policy if the hedge is an available -
for-sale (non-derivative) assets.
There is an additional limit to the cumulative amount that may be reported in equity;
it may not exceed the lesser of, on the one hand, the amount necessary to offset the
cumulative change in expected future cash flows and, on the other hand, the fair value
of the cumulative change in expected future cash flows. There is no guidance on
measuring these amounts.

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SFAS-52, SFAS-133,SFAS-137,SFAS-138, D-50 & F-60
This model is used for the following types of hedge:
 Cash flow hedges;
 A derivative used to hedge the future cash flows (other than for currency risk)
on a recognised asset or liability, for example of the interest cash flows on a
floating rate liability;
 A derivative used to hedge the future cash flows (other than for currency risk) of
a forecast,is probable but not firmly committed, transaction;
 Certain foreign currency hedges:
 A derivative used to hedge the foreign currency exposure of the cash flows
on a recognised asset or liability;
 A derivative used to hedge the foreign currency exposure of a forecast, i.e.
probable but not firmly committed, transaction; or
 A derivative used to hedge the foreign currency exposure in an un-
recognised firmly committed future transaction may be accounted for using
the cash flow model.
It is possible that a hedged future transaction may first be dealt with under the cash
flow model as a forecast transaction but subsequently fall under the fair value model
when it becomes a firmly committed transaction.
In a cash flow hedge the hedged item, if financial, need not be all of the risks affecting
the item’s cash flow. It could instead be the effect on cash flows solely of interest rate
risk or credit risk or both. In a cash flow hedge relating to a non-financial items, i.e.
the forecast purchase or sale of a non-financial asset, all of the item’s cash flow risks
must be hedged.
In addition, there are other rules on what can be hedged in a cash flow hedge. First,
the risk of variation in cash flows must be something which can affect the income
statement. Thus forecast stock issues and repurchase cannot be hedged. Next, the
forecast transaction must not be one that, on occurrence, will give rise to an asset or a
liability that will be remeasured to fair value through the income statement, for
example the purchase of a trading security. Similarly, if the cash flows relate to an
existing recognised asset or liability that item must not be remeasured to fair value
through the income statement. Normal exchange adjustments under SFA 52 are not
considered to be remeasured to fair value for this purpose. Lastly, the hedge cannot be

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of cash flows arising on a held-to-maturity security except as regards credit or foreign
currency risk.
Foreign currency hedges are not permitted in consolidated accounts unless the group
member holding the exposure also hold the hedge; thus a group treasury company
that buys the hedge in the market must write a back-to-back instrument with the
group member holding the exposure.
Accounting:
The hedge is stated at fair value with changes therein, in so far as they are an effective
hedge, reported in OCI until such time as the hedged cash flow affects the income
statement. At the time it is recycled out of OCI and reported in the income statement.
The ineffective elementsof the hedge are reported in the income statement.
There is an additional limit to the cumulative amount that may be reported in OCI: it
may not exceed the amount necessary to offset the cumulative change in expected
future cash flows. This cumulative limit can be a derived figure of the total change in
the fair value of the hedge less cumulated ineffective elements. The elements might be
computed, for example for a swap hedging floating rate interest payments, by
comparing the present value of the change in the future interest payment with the
present value of the change in future payments on the floating rate leg of the swap.
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