| Course | ACC 541 Accounting Theory & Research (ACC/541) |
|---|---|
| Week | 3 |
| Paper type | Leases and derivatives research paper |
| Length | about 1,190 words, 4 double-spaced pages plus title page and references |
| Format | APA 7 student paper |
| School | University of Phoenix |
| Program | MS in Accounting |
| Updated | September 2026 |
Free sample paper for ACC 541 Week 3
Hedging Next Spring's Corn and Committing to a Warehouse for Fifteen Years: Researching Cash Flow Hedge Accounting and Lease Term Judgment at a Composite Tortilla Manufacturer
[Student Name]
University of Phoenix
ACC/541: Accounting Theory & Research
Week 3 Assignment
[Instructor Name]
[Date]
The manufacturer, its hedges and its lease are composites written for a model paper; standards and research findings come from the sources listed.
A composite company makes corn tortillas, tostadas and chips for grocery stores and restaurants in the Southwest. It buys about 2 million bushels of white and yellow corn each spring for the following year's production. In October, worried that drought in the growing region would raise prices, it bought corn futures to fix the price of its next spring purchase. The same month it signed a ten-year lease for a distribution warehouse near its largest customer, with an option to renew for five more years. Both decisions are about next year and beyond, and the accounting must decide how much of management's intention to recognize today. This paper researches both.
The Hedge: Why and How
The company's risk is that the price of corn it must buy in March rises. It bought 400 futures contracts, each for 5,000 bushels, 2 million bushels in total, at $4.30 per bushel. Derivatives are measured at fair value on the balance sheet. Whether their gains and losses flow through net income immediately or are deferred depends on whether hedge accounting applies.
Qualifying for Hedge Accounting
A cash flow hedge protects against variability in cash flows of a forecasted transaction. To qualify, the company must document at inception the hedging relationship, the risk management objective, the hedging instrument, the hedged forecasted transaction and how it will assess effectiveness, and the hedge must be expected to be highly effective (FASB ASC 815-20-25-3; Financial Accounting Standards Board, 2025). The forecasted purchase must be probable. The controller documented on the day of purchase that the futures hedge the price of 2 million bushels to be bought in March, that the company has bought similar quantities each spring for a decade and that effectiveness will be assessed by regression of local delivered prices on futures prices over five years, which showed a close relationship.
Recording the Hedge
At December 31, March corn futures traded at $4.55, so the futures had a gain of $0.25 per bushel, $500,000. Under the 2017 hedging update, for a highly effective cash flow hedge the entire change in fair value of the hedging instrument included in the assessment of effectiveness is recorded in other comprehensive income (Financial Accounting Standards Board, 2017). The company records a derivative asset, and the $500,000 gain goes to other comprehensive income, leaving net income untouched for now.
In March, the company closed the futures at $4.70, a cumulative gain of $800,000, and bought corn locally at $4.72 per bushel. The corn is recorded at its purchase cost. The $800,000 remains in accumulated other comprehensive income until the tortillas made from that corn are sold, when it is reclassified to cost of sales, offsetting most of the higher corn price. The effective cost of corn in cost of sales is about $4.32 per bushel, close to the price the company aimed to fix.
Basis Risk
The hedge was not perfect. The futures price rose $0.40, while the local price the company paid, $4.72, was $0.02 above the March futures price, a small basis difference. Because the company assesses effectiveness using the relationship between local and futures prices, the hedge remains highly effective, and the update no longer requires separate measurement of ineffectiveness in earnings for such hedges.
The Lease Term
The warehouse lease runs ten years at $240,000 a year, paid at the start of each year, with a five-year renewal at the same rent. The lease term includes renewal periods the lessee is reasonably certain to exercise (FASB ASC 842-10-30-1). That judgment considers contract, asset, entity and market factors. The company will spend $1.2 million on refrigerated docks and racking with a useful life of fifteen years, the site is next to its largest customer and moving would require new permits and disrupt deliveries. Those economic incentives make renewal reasonably certain, so the lease term is fifteen years.
Measuring the Lease
With no way to observe the landlord's implicit rate, the discount rate is what the company would pay to borrow on a secured fifteen-year basis, 6%. The present value of fifteen annual payments of $240,000 in advance is about $2.47 million, using a factor of about 10.295. Title stays with the landlord, no purchase option exists and fifteen years is well short of the building's remaining life of about forty, and the present value is well below the building's fair value, so it is an operating lease. The balance sheet gains an obligation and a matching asset of about $2.47 million each, and the income statement shows a straight-line lease cost of $240,000 a year.
Had the renewal not been reasonably certain, the liability would have been about $1.87 million over ten years. The judgment adds about $600,000 to the balance sheet.
If the Forecast Had Failed
Hedge accounting depends on the forecasted purchase remaining probable. Had drought destroyed the regional crop and the company decided to buy fewer bushels, the part of the hedge covering the purchases no longer expected would lose its hedge accounting, and any gains deferred for it would be reclassified to earnings immediately. If the purchase were merely delayed a few months, the gains would stay in other comprehensive income until the corn was bought and used. The controller reviews the forecast each quarter and documents that it remains probable, since the auditor will ask for that evidence.
What Research Says About Hedging
Guay and Kothari (2003) found that for most nonfinancial firms, derivative positions were small relative to firm size and their potential gains were modest compared with firm risk, suggesting that corporate hedging is often targeted rather than transformational. For the tortilla maker, hedging a single input that makes up a large share of cost is exactly the kind of targeted use the research describes. Campbell (2015) found that the fair values of cash flow hedges reported in other comprehensive income helped predict future profitability, evidence that the deferred gains carry information for investors.
Taxes
For tax purposes, gains on the corn futures are treated as part of a business hedging transaction, producing ordinary income or loss matched with the cost of the corn, provided the company identifies the hedge on its books on the day it is entered. The tax identification is separate from the documentation required for hedge accounting, so the controller prepares both.
Disclosure
The company discloses its hedging objectives, the notional amount and fair value of the futures, the amounts in other comprehensive income and the expected timing of reclassification. For the lease, it discloses the term, including the renewal judgment, the discount rate and a maturity analysis.
Conclusion
The corn futures qualify as a documented, highly effective cash flow hedge, so their gains were deferred in other comprehensive income and matched with the cost of the corn they protected. The warehouse renewal is reasonably certain because of significant improvements and location, making the lease term fifteen years and the liability about $2.47 million. In both areas, the accounting follows management's documented intentions, which is why the documentation and disclosure matter.
References
Campbell, J. L. (2015). The fair value of cash flow hedges, future profitability, and stock returns. Contemporary Accounting Research, 32(1), 243-279. https://doi.org/10.1111/1911-3846.12069
Financial Accounting Standards Board. (2017). Derivatives and hedging (Topic 815): Targeted improvements to accounting for hedging activities (Accounting Standards Update No. 2017-12).
Financial Accounting Standards Board. (2025). FASB Accounting Standards Codification. https://asc.fasb.org
Guay, W., & Kothari, S. P. (2003). How much do firms hedge with derivatives? Journal of Financial Economics, 70(3), 423-461. https://doi.org/10.1016/S0304-405X(03)00179-X
What the ACC 541 Week 3 instructions ask
ACC 541 Week 3 usually asks graduate students to research and apply the guidance on leases, derivative instruments and hedging. Typical requirements include identifying derivatives, distinguishing fair value, cash flow and net investment hedges, the documentation and effectiveness requirements for hedge accounting, the recognition of gains and losses, and, for leases, the lease term, including renewal options, measurement of the liability and right-of-use asset and classification. Many prompts use a case with numbers and ask students to cite Codification paragraphs, explain judgments and discuss the effects on financial statements and users. Research on why firms hedge or how lease accounting affects analysis is often expected as well.
How this ACC 541 Week 3 example is built
A tortilla manufacturer depends on corn, a commodity with volatile prices, and needs warehouse space near its customers, so both judgments arise naturally. The derivative section starts with the business reason for hedging, then shows the documentation required at inception and why the hedge qualifies as a cash flow hedge. Gains are traced from the futures account to other comprehensive income and then into cost of sales. The lease section weighs the economic incentives to renew, especially leasehold improvements, and shows how the decision changes the liability. Each judgment is tied to Codification paragraphs. The closing sections discuss basis risk, research on hedging and what readers need to see in the notes.
ACC 541 Week 3 grading rubric: where the points go
Graduate grading in this area tends to reward accurate application of the hedge accounting criteria and lease term guidance, correct measurements and critical discussion of judgment. Faculty check that the hedge is documented at inception with the risk, instrument, hedged item and effectiveness method, that gains and losses are recorded in other comprehensive income and reclassified when the hedged transaction affects earnings and that the lease term includes renewal periods reasonably certain to be exercised, based on economic factors. Measurements should be supported, and classification tested. Discussion of research and disclosure adds depth. Paragraph citations, quantified effects of each judgment and graduate-level analysis complete the grade.
ACC 541 Week 3 help: mistakes to avoid
One common ACC 541 Week 3 error is recording derivative gains in net income when hedge accounting applies. For a qualifying cash flow hedge, changes in the hedging instrument go to other comprehensive income and are released when the hedged purchase affects earnings. Another is assuming hedge accounting is automatic; it requires documentation at inception. For the lease, students often include or exclude a renewal option without analysis. Consider significant leasehold improvements, relocation costs and the importance of the location. Measure the liability with the term you chose. Use the incremental borrowing rate if the implicit rate is unknown. Finally, discuss basis risk honestly, since hedges are rarely perfect, and say how effectiveness was assessed.
Related ACC 541 sample papers
Other ACC 541 week samples
- ACC 541 Week 1: Accounting Theory and Research
- ACC 541 Week 2: Inventory and Fixed Asset Research
- ACC 541 Week 4: Debt, Contingencies and Segments
- ACC 541 Week 5: Pensions and Business Combinations
- ACC 541 Week 6: Consolidations and Equity
ACC 541 Week 3 questions, answered
What does ACC/541 Week 3 usually cover?
It usually covers research on leases and derivative instruments, including hedge accounting, lease term, measurement and classification, with Codification citations and discussion of judgment.
Where can I find a free ACC 541 Week 3 sample paper?
The tortilla manufacturer paper on this page, covering a corn futures cash flow hedge and a warehouse lease renewal decision, is free to read with margin notes. We will prepare your first graduate draft free as well.
How are gains on a cash flow hedge recorded?
For a qualifying cash flow hedge, changes in the fair value of the hedging instrument are recorded in other comprehensive income and reclassified into earnings when the hedged transaction affects earnings.
When is a lease renewal option included in the lease term?
When the lessee is reasonably certain to exercise it, considering economic factors such as significant leasehold improvements, relocation costs and the importance of the asset to operations.
What is basis risk in commodity hedging?
The risk that the price of the hedging instrument, such as an exchange futures contract, does not move exactly with the price the company actually pays, such as a local delivered price.
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