Executive Summary
The objective of this case is to provide students with an opportunity to prepare and evaluate accounting for a derivative transaction used by Burns Energy Associates as a means of managing risk. The case is designed to expose the student to commodity derivatives and its place in the energy industry. Also, the case focuses on enhancing students' ability to analyze a series of transactions while introducing current standards to effectively account for them. In 1997, Burns contracted Smithers Investment Group to recommend a hedging strategy that would protect it from adverse price movements in the natural gas market. As a result, the company entered into a natural gas futures option to hedge against the possibility of falling prices in the marketplace. Attaching option packages such as caps, floors, and collars further complicate this case.
The case attempts to reduce the complexity of derivative transactions and the accounting that must follow through the logic developed in the study questions. The information presented in the industry overview and introduction to derivatives will allow the student to have a better understanding of commodities derivatives in the energy industry. The case and the questions following will provide the student with the ability to analyze the risks involved in this type of contract. Furthermore, the case addresses the attributes of accounting for these transactions and how they affect the company's financial statements.
