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Flashcards in Foreign Currency Transaction & Translation Deck (78):
1

Which one of the following is a direct quotation for a U.S. entity when buying Japanese Yen (JPY)?

  • I. 0.89 JPY per $1.00.
  • II. $.011 per 1.00 JPY.

 

  • I. 0.89 JPY per $1.00. - NO
  • II. $.011 per 1.00 JPY. - YES

A direct quotation, or direct exchange rate, states the domestic price of one unit of a foreign currency. In this case, each JPY costs $.011, which is a direct quotation.

2

Soco plans to buy 100,000 Euros with U.S. dollars. The exchange rate is $1.00 = 0.75 Euro. Assuming no transaction cost, how much will Soco have to pay in dollars (rounded) for 100,000 Euros?

  1. $175,000
  2. $133,333
  3. $100,000
  4. $75,000

$133,333

If $1.00 will buy 0.75 Euro, then 0.75E = $1.00, and E = $1.00/0.75, or E = $1.33. So, one Euro will cost $1.33; therefore, 100,000 E x $1.33 = $133,333, the correct answer.

3

If a foreign currency exchange gain results from the effects of a change in exchange rates on an account receivable, where will the exchange gain be reported in the financial statements?

  1. As other comprehensive income.
  2. As an extraordinary gain.
  3. As an item of income from continuing operations.
  4. As a deferred gain.

As an item of income from continuing operations.

Foreign currency exchange gains (or losses) on accounts receivable are reported in current income as an item of income from continuing operations.

4

Which of the following is not associated with the general principles of accounting for foreign currency operating transactions?

  1. Transactions will be recorded in terms of the functional currency.
  2. Gains and losses result from changes in currency exchange rates.
  3. Gains and losses are deferred until transactions are settled.
  4. Foreign currencies are converted using the current or spot exchange rate.

Gains and losses are deferred until transactions are settled.

Gains and losses on foreign currency operating transactions that result from changes in currency exchange rates are not deferred. Such gains and losses must be recognized in current income of the period in which the currency exchange rate changes.

5

On December 31, 2008, the end of its fiscal year, Domco had a foreign currency account payable with a settlement amount greater than its previously recorded carrying amount. Which one of the following would Domco recognize for 2008?

  1. No exchange gain or loss.
  2. Exchange gain.
  3. Exchange loss.
  4. Deferred gain.

Exchange loss.

Since the foreign currency account payable had a settlement amount greater than its previously recorded carrying amount, Domco would have to recognize the change in settlement amounts in the period in which the settlement amount changed - 2008. Specifically, since the amount to settle the account payable increased during 2008, Domco would have to recognize an exchange loss - it will take more dollars to acquire the foreign currency needed to settle the account.

6

On October 1, 2004, Mild Co., a U.S. company, purchased machinery from Grund, a German company, with payment due on April 1, 2005. If Mild's 2004 operating income included no foreign exchange transaction gain or loss, then the transaction could have:

  1. Resulted in an extraordinary gain.
  2. Been denominated in U.S. dollars.
  3. Caused a foreign currency gain to be reported as a contra account against machinery.
  4. Caused a foreign currency translation gain to be reported as a separate component of stockholders' equity.

Been denominated in U.S. dollars.

If the transaction was denominated in U.S. dollars, there is no foreign exchange gain or loss for Mild. (There would be a gain or loss for Grund.)

7

In preparing consolidated financial statements of a U.S. parent company with a foreign subsidiary, the foreign subsidiary's functional currency is the currency:

  1. In which the subsidiary maintains its accounting records.
  2. Of the country in which the subsidiary is located.
  3. Of the country in which the parent is located.
  4. Of the environment in which the subsidiary primarily generates and expends cash.

Of the environment in which the subsidiary primarily generates and expends cash.

By definition (SFAS #52), an entity's functional currency is the currency of the primary economic environment in which the entity operates. Normally, that is the currency of the environment in which the entity primarily generates and expends cash.

8

Shore Co. records its transactions in U.S. dollars. A sale of goods resulted in a receivable denominated in Japanese Yen, and a purchase of goods resulted in a payable denominated in Swiss francs.

Shore recorded a foreign exchange gain on collection of the receivable and an exchange loss on settlement of the payable. The exchange rates are expressed as so many units of foreign currency to one dollar.

Did the number of foreign currency units exchangeable for a dollar increase or decrease between the contract and settlement dates?

  • Yen exchangeable for $1
  • Francs exchangeable for $1

  • Yen exchangeable for $1 - DECREASE
  • Francs exchangeable for $1 - DECREASE

Since the quotes are a number of foreign units per dollar, they are considered indirect quotations.

When there is a gain on a receivable that is denominated in a foreign currency, it means that the same number of foreign currency units translates into more dollars. Thus, the number of units (yen) per dollar declined.

When there is a loss on a payable, it means that they had to pay more dollars to settle the loan for the fixed amount of francs. Using an indirect quote, this means that the number of francs per dollar declined (it takes more dollars to get the same amount of francs).

Since both indirect quotations decreased, this is the correct response.

9

Fogg Co., a U.S. company, contracted to purchase foreign goods. Payment in foreign currency was due one month after the goods were received at Fogg's warehouse. Between the receipt of goods and the time of payment, the exchange rates changed in Fogg's favor. The resulting gain should be included in Fogg's financial statements as a(an):

  1. Component of income from continuing operations.
  2. Extraordinary item.
  3. Deferred credit.
  4. Component of comprehensive income.

Component of income from continuing operations.

The foreign currency exchange gain that occurred as a result of the exchange rate change should be recognized as a component of income from continuing operations in the income statement. Gains and losses resulting from changes in exchange rates are recognized in current earnings in the period in which the exchange rate changes.

10

On September 22, 2005, Yumi Corp. purchased merchandise from an unaffiliated foreign company for 10,000 units of the foreign company's local currency. On that date, the spot rate was $.55. Yumi paid the bill in full on March 20, 2006, when the spot rate was $.65. The spot rate was $.70 on December 31, 2005.

What amount should Yumi report as a foreign currency transaction loss in its income statement for the year ended December 31, 2005?

  1. $0
  2. $500
  3. $1,000
  4. $1,500

$1,500

When a monetary obligation in a foreign currency exists, all gains and losses reflective of changes in exchange rates are recognized in current income.

The loss would be based on the rate at initiation and the rate at year end. (The recovery in the next period would be treated as a gain in that period.) The loss is $1,500 [($.55 - $.70)10,000], making this response correct.

11

Which one of the following is most likely a foreign currency import transaction by a U.S. company?

  1. Sale of goods to be collected in dollars.
  2. Purchase of goods to be paid in dollars.
  3. Sale of goods to be collected in a foreign currency.
  4. Purchase of goods to be paid in a foreign currency.

Purchase of goods to be paid in a foreign currency.

The purchase of goods by a U.S. entity would most likely reflect an import transaction and, since it is to be settled in a foreign currency, would be a foreign currency import transaction.

12

Toigo Co. purchased merchandise from a vendor in England on November 20 for 500,000 British pounds. Payment was due in British pounds on January 20. The spot rates to purchase one pound were as follows:

  • November 20 - $1.25
  • December 31 - $1.20
  • January 20 - $1.17

How should the foreign currency transaction gain be reported on Toigo's financial statements at December 31?

  1. A gain of $40,000 as a separate component of stockholders' equity.
  2. A gain of $40,000 in the income statement.
  3. A gain of $25,000 as a separate component of stockholders' equity.
  4. A gain of $25,000 in the income statement.

A gain of $25,000 in the income statement.

A gain of $25,000 should be reported in the current income statement. The gain was computed as:

  • November 20 $1.25 x 500,000 British pounds = $625,000
  • December 31 $1.20 x 500,000 British pounds = $600,000
  • Gain $25,000

And, gains (and losses) on foreign currency transactions should be reported in current income (IFCO).

13

Which of the following is not associated with accounting for a foreign currency import transaction?

  1. Can be initiated and settled in the same fiscal period.
  2. Typically involves a domestic entity buying from a foreign entity.
  3. A settlement amount greater than the recorded amount results in an exchange gain.
  4. Changes in exchange rates create gains and losses.

A settlement amount greater than the recorded amount results in an exchange gain.

Because an import transaction normally results in a liability to the buyer (importer), a settlement amount (of the liability) greater than the current carrying amount of the liability will result in an exchange loss, not an exchange gain.

14

Can a gain or loss on a foreign currency import transaction be recognized if the transaction is initiated in one fiscal period and settled:

  • In the same fiscal period   
  • In a later fiscal period 

  • In the same fiscal period - YES
  • In a later fiscal period - YES

A gain or loss on a foreign currency import transaction can be recognized if the transaction is initiated in one fiscal period and settled in either the same fiscal period or a later fiscal period. The effect of exchange rate changes on accounts denominated in a foreign currency should be recognized in the period(s) in which the exchange rate changes. Therefore, if such an account (e.g., account payable) exists in more than one period, the effects of exchange rate changes in either or both periods would result in the recognition of a gain or loss in either or both periods.

15

RWB Co., a U.S. entity, purchased goods for resale from a Thai manufacturer. The purchase agreement provided that the U.S. entity would pay the Thai entity 500,000 baht, the Thai currency. The goods were delivered on July 1, 2008, with payment due August 29, 2008. The following exchange rates were determined for the number of baht to the dollar (i.e., B/$):

Spot Rate / 60-day Forward Rate

  • July 1, 2008 35.0B / $36.5B/$
  • August 29, 2008 37.0B / $38.0B/$

At which one of the following amounts (rounded) would RWB Co. record the goods purchased from the Thai manufacturer?

  1. $13,158
  2. $13,514
  3. $13,699
  4. $14,286

Which one of the following is the amount (rounded) of exchange gain or loss, if any, that RWB Co. would recognize on the purchase of goods from the Thai manufacturer?

  1. $0
  2. $185
  3. $541
  4. $772

$14,286

The goods should be measured and recorded in dollars based on the exchange rate in effect (spot rate) at the date of the purchase, July 1. Thus, the correct amount would be 500,000B/35.0B per $ = $14,286.

$772 Gain as the USD Strengthened

Since the exchange rate changed between the date the obligation was incurred (July 1) and the date it was settled (August 29), the effects of the exchange rate change must be recognized as an exchange gain or loss. The correct answer would be the difference between the spot rate on July 1 and the spot rate on August 29, or (500,000B/35.0B per $ = $14,286) - (500,000B/37.0B per $ = $13,514) = $772.

16

On October 1 of the current year, a U.S. company sold merchandise on account to a British company for 2,000 pounds (exchange rate, 1 pound = $1.43). At the company's December 31 fiscal year end, the exchange rate was 1 pound = $1.45. The exchange rate was $1.50 on collection in January of the subsequent year. What amount would the company recognize as a gain (loss) from foreign currency translation when the receivable is collected?

  1. $-0-
  2. $100
  3. $140
  4. $(140)

$100

A foreign currency exchange gain will be recognized for the change in exchange rate between December 31 and the January collection date.

That gain is computed as $1.45 -> $1.50 = $0.05 x 2,000 pounds = $100 gain.

17

A sale of goods, denominated in a currency other than the entity's functional currency, resulted in a receivable that was fixed in terms of the amount of foreign currency that would be received. Exchange rates between the functional currency and the currency in which the transaction was denominated changed. The resulting gain should be included as a:

  1. Translation gain reported as a component of comprehensive income.
  2. Translation gain reported as a component of income from continuing operations.
  3. Transaction gain reported as a component of comprehensive income.
  4. Transaction gain reported as a component of income from continuing operations.

Transaction gain reported as a component of income from continuing operations.

The event described is a foreign currency (FC) transaction, not FC translation, and the gain (or loss) would be reported as a component of income from continuing operations for the current period.

18

Which one of the following sets correctly identifies the relationship between a recorded amount and a related settlement amount that will result in an exchange gain on an import transaction and an exchange loss on an export transaction?

  • Gain on Import Transaction
  • Loss on Export Transaction

  • Gain on Import Transaction
    • Recorded > Settlement 
  • Loss on Export Transaction
    •  Recorded > Settlement 

A gain on an import transaction would occur when the recorded amount is greater than the settlement amount, and a loss on an export transaction would occur when the recorded amount is greater than the settlement amount. An import transaction will result in a payable. A gain on a foreign currency payable would occur when the settlement amount is less than the recorded amount. An export transaction will result in a receivable. A loss on a foreign currency receivable would occur when the recorded amount is greater than the settlement amount.

19

On September 1, 2005, Cano & Co., a U.S. corporation, sold merchandise to a foreign firm for 250,000 francs. Terms of the sale require payment in francs on February 1, 2006. On September 1, 2005, the spot exchange rate was $.20 per franc. At December 31, 2005, Cano's year end, the spot rate was $.19, but the rate increased to $.22 by February 1, 2006, when payment was received.

How much should Cano report as a foreign exchange gain or loss in its 2006 income statement?

  1. $0
  2. $2,500 loss
  3. $5,000 gain
  4. $7,500 gain

$7,500 gain

A foreign exchange gain or loss is recognized for any change in value of a monetary debt denominated in a foreign currency. This is true at balance sheet time as well as when it is realized.

Thus, a $2,500 loss would have been recognized at December 31, 2005 (250,000 francs * [.20 - .19]). Then, in 2006, the full difference between the $.19 and $.22 (250,000 francs * .03) would be realized for a total gain of $7,500.

20

Which one of the following sets correctly identifies the characteristics of foreign currency transactions for a U.S. entity?

  • Transaction Denominated In
  • Transaction Measured In

  • Transaction Denominated In - FC
  • Transaction Measured In - USD

For a U.S. entity, a foreign currency transaction will be denominated (settled) in non-dollars, but measured and recorded on the U.S. entity's books in dollars.

21

Which of the following general types of transactions could be a foreign currency transaction?

  • Operating Transactions   
  • Forward Exchange Contract Transactions

  • Operating Transactions - YES
  • Forward Exchange Contract Transactions - YES

Either operating transactions (export, import, lending, borrowing, investing, etc.) or forward exchange contract transactions (contracts to exchange currencies) could be foreign currency transactions. A foreign currency transaction occurs when a domestic entity (e.g., U.S. entity) agrees to settle a transaction (pay, receive, exchange, etc.) in a non-domestic (e.g., non-dollar) currency.

22

Which one of the following would be a foreign currency transaction for the U.S. entity?

  1. A U.S. entity purchases goods from a Swiss entity to be settled in dollars.
  2. A German entity purchases goods from a U.S. entity to be settled in dollars.
  3. A U.S. entity purchases goods from a British entity to be settled in pounds sterling.
  4. A U.S. entity sells goods to a Russian entity to be settled in dollars.

A U.S. entity purchases goods from a British entity to be settled in pounds sterling.

If a U.S. entity purchases goods from (or sells goods to) a British entity and the U.S. entity is to settle in a currency other than the dollar (pounds sterling), it is a foreign currency transaction to the U.S. entity (but would not be to the British entity). A foreign currency transaction occurs when a domestic entity agrees to settle a transaction in a foreign currency.

23

Which one of the following is not associated with forward contracts?

  1. The contract may require a future purchase or sale.
  2. The contract provides for using the market price at the date the contract is fulfilled.
  3. The contract may permit a future purchase or sale.
  4. The contract specifies the subject matter of the exchange.

The contract provides for using the market price at the date the contract is fulfilled.

Forward contracts establish the price at the time the contract is executed, not at the time the contract is fulfilled.

24

When used for speculative purposes, which of the following contracts is likely to result in a foreign currency loss to the contract holder who initiated the contract?

  • Foreign Currency Forward Exchange Contract  
  • Foreign Currency Option Contract 

  • Foreign Currency Forward Exchange Contract - YES  
  • Foreign Currency Option Contract - NO

While a foreign currency forward exchange contract entered into for speculative purposes is likely to result in a foreign currency loss (or gain) for the contract holder, a foreign currency option contract entered into for speculative purposes is not likely to result in a foreign currency loss for the contract holder.. Since the contract holder has the option of whether or not to exercise the contract option to exchange currencies, it is not likely that the option would be exercised if it would result in a loss.

25

Even if the use of a forward contract for hedging prevents a loss (or gain) from exchange rate changes on the hedged item, which of the following may result in a cost to an entity that uses forward contracts for hedging purposes?

  • I. Fees imposed by the counterparty to the forward contract.
  • II. A difference between the spot rate and the forward rate when the forward exchange contract is executed.

BOTH.

A firm that engages in a forward contract will both incur fees imposed by the counterparty and incur the cost of the difference between the spot rate and the forward rate at the time the forward contract is executed. The difference between the spot rate and the forward rate is the premium (or discount) on the forward contract and must be amortized over the life of the contract as a financing expense, not an exchange gain or loss.

26

Which of the following exchange rates may be used in accounting for a forward contract hedging instrument?

  • Spot Rate
  • Forward Rate  

  • Spot Rate - YES
  • Forward Rate - YES

Both the spot rate and the forward rate will be used in accounting for a forward contract used for hedging. The forward rate is used as the basis for determining the change in value of a forward contract. As the forward rate changes, so also will the carrying value of the forward contract, resulting in exchange gains and losses. The spot rate is used to determine the premium or discount on the forward contract. Specifically, the difference between the spot rate and the forward rate at the date of the forward contract is the premium (or discount) on the forward contract, which enters into the determination of income over the life of the contract.

27

Which one of the following is not a characteristic associated with hedging foreign currency firm commitments?

  1. The hedged item is for purchase or sale to be recorded in the future.
  2. The hedged item is for an already booked asset or liability.
  3. The hedged item is evidenced by a contract or similar legal commitment.
  4. The risk being hedged exists prior to an asset or liability being recognized.

The hedged item is for an already booked asset or liability.

A firm commitment exists when an entity has a contractual obligation or right, but has not yet recorded the obligation or right because it does not meet the requirements of GAAP. Therefore, an asset or liability has not been booked (recognized) already.

28

What kind of hedge can be used to hedge a foreign currency firm commitment?

  • Cash Flow
  • Fair Value

  • Cash Flow - YES
  • Fair Value - YES

A forward contract used to hedge a foreign currency firm commitment can be either a cash flow hedge (as permitted by the FASB's Derivatives Implementation Group) or a fair value hedge (as permitted by FASB #133).

29

What general kind of hedge is the hedge of a forecasted transaction to be denominated in a foreign currency?

  1. Fair value.
  2. Cash flow.
  3. Economic.
  4. Income.

Cash flow.

The hedge of a forecasted transaction to be denominated in a foreign currency is a cash flow hedge. The risk being hedged is the variability in expected cash flows (inflows or outflows) on the planned transaction that would result from changes in the exchange rate.

30

Based on preliminary discussions with a foreign customer, Alcoco, a U.S. entity, budgeted a significant sale to the foreign entity denominated in its foreign currency expected in June 2009. To hedge the risk of an adverse exchange rate change on the dollar value of the expected sale, on January 2, 2009, Alcoco entered into a forward exchange contract to sell an amount of the foreign currency equal to the expected sale. On March 31, 2009, the value of the expected sale amount in dollars had decreased by $3,800. The fair value of the forward contract at that date had increased by $4,000.

Which one of the following is the amount that should be recognized in other comprehensive income for the forward contract only (the hedging instrument) in Alcoco's quarterly financial statements as of March 31?

  1. $200
  2. $3,800
  3. $4,000
  4. $7,800

Which one of the following is the amount that should be recognized in current income for the forward contract only (the hedging instrument) in Alcoco's quarterly financial statements as of March 31?

  1. $200
  2. $3,800
  3. $4,000
  4. $7,800

$3,800 - The Effective Portion of the Hedge --> OCI

The effective portion of the hedge ($3,800) should be reported in other comprehensive income, and the ineffective portion ($200) should be reported in current income. The effective portion of the hedge is the amount of change in the forward contract (hedging instrument) equal to the change in the fair value of the expected sale amount (the hedged item) ($3,800); the ineffective portion is the difference ($200).

$200 - Ineffective Portion of Hedge --> Net Income

The ineffective portion of the (cash flow) hedge should be reported in current income. The effective portion of the hedge ($3,800) should be reported in other comprehensive income, and the ineffective portion ($200) should be reported in current income. The effective portion of the hedge is the amount of change in the forward contract (hedging instrument) equal to the change in the fair value of the expected sale amount (the hedged item) ($3,800); the ineffective portion is the difference ($200) and should be reported in current income.

31

Which of the following statements concerning foreign currency hedging is/are correct?

  • I. The item being hedged is denominated in a foreign currency.
  • II. The item being hedged must be recorded on the entity’s books in order to be hedged.

I ONLY.

In foreign currency hedging, the item being hedged is denominated in a foreign currency (Statement I). The item being hedged does not have to be recorded on the entity's books in order to be hedged (Statement II). For example, forecasted transactions and unrecognized firm commitments may be hedged because they are subject to the same risk of foreign currency exchange rate changes as are already booked (recognized) assets and liabilities.

32

For accounting purposes, a hedge to offset the risk of exchange rate changes on a planned transaction would be classified as the hedge of:

  1. A firm commitment.
  2. A forecasted transaction.
  3. A recognized asset.
  4. An unrecognized asset.

A forecasted transaction.

A hedge to offset the risk of exchange rate changes on a planned transaction would be the hedge of a forecasted transaction. A forecasted transaction is a non-firm, but planned or expected transaction that will be denominated in a foreign currency.

33

A hedge to offset the risk of exchange rate changes on converting the financial statements of a foreign subsidiary to the domestic (functional) currency would be the hedge of:

  1. A forecasted transaction.
  2. A recognized asset.
  3. A net investment in a foreign operation.
  4. An available-for-sale investment.

A net investment in a foreign operation.

A hedge to offset the risk of exchange rate changes on converting the financial statements of a foreign subsidiary to the domestic (functional) currency would be the hedge of a net investment in a foreign operation. Changes in exchange rates will result in changes in the amount of domestic (functional) currency that will result from converting (translating) financial statements from a foreign currency. Hedges of net investments in a foreign operation are intended to offset that risk.

34

Which one of the following correctly reflects a set of events that may result in a sequence of related hedges?

  1. Firm commitment -> forecasted transaction -> recognized liability.
  2. Firm commitment -> recognized liability -> forecasted transaction.
  3. Forecasted transaction -> firm commitment -> recognized liability.
  4. Forecasted transaction -> recognized liability -> firm commitment.

Forecasted transaction -> firm commitment -> recognized liability.

A forecasted transaction (a planned or expected transaction) would occur before a firm commitment, which would occur before a recognized liability. A forecasted transaction is a non-firm but intended (perhaps even budgeted) transaction. A firm commitment exists when an entity has a contractual obligation or right, but has not yet recorded the obligation or right because it does not meet the requirement of GAAP. A recognized liability would be one that is already booked by the entity. Thus, the correct sequence would be forecasted transaction -> firm commitment -> recognized liability.

35

On December 12, 2008, Imp Co. entered into a forward exchange contract to hedge a firm commitment to purchase equipment being manufactured to Imp's specifications. The forward contract was to purchase 100,000 Euros in 90 days as a fair value hedge of the equipment. The relevant direct exchange rates were as follows:

Spot Rate / Forward Rate (for 3/12/09)

  • December 12, 2008 - $1.86 / $1.80
  • December 31, 2008 - $1.96 / $1.83

At December 31, 2008, what amount of foreign currency transaction gain should Imp include in income from this forward contract only? (Ignore discount and present value considerations.)

  1. $-0-
  2. $3,000
  3. $6,000
  4. $10,000

$3,000

The gain (or loss) recognized on the contract (disregarding the discount at initiation of the contract and without using a present value factor) will be computed as the number of Euros to be purchased (100,000E) multiplied by the change in the forward exchange rate between the date the contract was executed ($1.80) and the end of the fiscal period, December 31, 2008 ($1.83). Therefore, the gain recognized will be 100,000E x ($1.83 - $1.80 = $0.03) = $3,000. It is a gain because the forward contract increased in value as of December 31. The gain on the forward contract will partially offset the loss on the equipment commitment for the period. A complete determination of the gain on the forward contract (only) would include amortization of the difference between the spot rate and forward rate at the initiation of the contract ($6,000) and discounting the nominal gain of $3,000 for the period December 31 to the March settlement date.

36

What general kind of hedge, if any, is the hedge of an available-for-sale investment denominated in a foreign currency?

  • I. Fair value.
  • II. Cash flow.

 

Fair value.

The hedge of an available-for-sale investment denominated in a foreign currency is a fair value hedge. The risk hedged is the effect of exchange rate changes on the fair value in dollars of the investment.

37

Which of the following statements concerning the use of a forward contract to hedge a foreign currency investment held available-for-sale is/are correct?

  • I. The investment security must not be traded in the investor's functional currency.
  • II. The forward contract used as the hedging instrument must be highly effective in hedging the investment.

BOTH are correct.

Both Statement I and Statement II are correct. In hedging a foreign currency investment held available-for-sale, the investment security must not be traded in the investor's functional currency, and the forward contract used as the hedging instrument must be highly effective in hedging the investment.

38

Tramco has an investment classified as available-for-sale, which is denominated in 80,000 units of a foreign currency. In order to hedge its investment, Tramco acquired a forward exchange contract for 100,000 units of the foreign currency in which its investment is denominated. During the year, the value of the investment decreased $9,000, and the value of the forward contract increased by $10,000. For the year, how will Tramco recognize in its financial statements the decrease in the value of the investment and the increase in the value of the forward contract that occurred during the year?

  • Investment Decrease
  • Forward Contract Increase

  • Investment Decrease - NET INCOME
  • Forward Contract Increase - NET INCOME

The hedge of a foreign currency available-for-sale investment is a fair value hedge. Therefore, the change in values of both the investment (hedged item) and the forward contract (hedging instrument) will be reported in current net income. Only 80% of the change in the value of the forward contract will be reported in net income as offsetting the change in value of the investment, but the other 20% also will be reported in net income as a speculative gain.

39

An investment in a foreign operation can be hedged if the foreign operation is a/an:

  • Equity Method Investee
  • Subsidiary to be Consolidated 

  • Equity Method Investee - YES
  • Subsidiary to be Consolidated - YES

​An investment in a foreign operation can be hedged if it is either an equity method investee or a subsidiary to be consolidated (or a foreign branch or other separate foreign operation).

40

Which of the following actions would an entity most likely take to hedge an investment in a foreign operation?

  1. Invest in the debt securities of the same foreign operation.
  2. Invest in the equity securities of another foreign entity with the same foreign currency as the operation being hedged.
  3. Invest in the debt securities of another foreign entity with the same foreign currency as the operation being hedged.
  4. Borrow from another foreign entity with the same foreign currency as the operation being hedged.

Borrow from another foreign entity with the same foreign currency as the operation being hedged.

Borrowing from another foreign entity with the same foreign currency as the operation being hedged would hedge the (equity) investment in the foreign operation. Since the equity investment in a foreign operation is an asset and the borrowing would be a liability, both in the same foreign currency, a change in the exchange rate would have offsetting effects. Thus, if an exchange rate change caused a decrease in the value of the investment (asset), it would cause an increase in the value of the borrowing (liability).

41

In which of the following hedges using a forward contract will at least a portion of any currency exchange gain or loss on the hedging instrument be reported as a translation adjustment in other comprehensive income?

  1. Forecasted transaction hedge.
  2. Firm commitment hedge.
  3. Investment in available-for-sale securities hedge.
  4. Net investment in foreign operations hedge.

Net investment in foreign operations hedge.

The hedge of a net investment in foreign operations is a fair value hedge, but changes in the fair value of the forward contract (hedging instrument) that are equal to or less than the change in the translated value of the financial statements of the foreign operation are reported as a translation adjustment in other comprehensive income. The change in the forward contract reported as a translation adjustment offsets the change in the value of the translated financial statements of the foreign operation, which also are reported as a translation adjustment.

42

Which of the following statements concerning the use of a forward contract for speculative purposes is/are correct?

  • I. The forward contract is not intended to offset an existing risk.
  • II. Changes in the value of the forward contract are deferred until the contract matures.

I ONLY.

When used for speculative purposes, a forward contract is not entered into to offset, or hedge, an existing risk. Rather, the purpose of entering into a speculative forward contract is to make a profit. Statement II is not correct. Changes in the value of a forward contract used for speculative purposes, measured using the forward rate, are recognized in the period in which the forward rate changes and are not deferred until the contract matures.

43

Which one of the following hedges using a forward contract will require the recognition of a new asset or liability if a gain or loss occurs on the hedging instrument?

  1. Forecasted transaction hedge.
  2. Firm commitment hedge.
  3. Recognized asset or liability hedge.
  4. Net investment in foreign operations hedge.

Firm commitment hedge.

The hedge of a firm commitment is a fair value hedge, with changes in the fair value of the forward contract (hedging instrument) reported as an increase or decrease to the forward contract and a gain or loss recognized in current income. A change in the fair value of the firm commitment (hedged item) would be recognized as a loss or gain in current income, together with the recognition of a previously unrecognized firm commitment asset or liability for the amount of the change.

44

A hedge to offset the risk of loss on a recognized asset or liability is which of the following types of hedge?

  1. Cash flow hedge.
  2. Fair value hedge.
  3. Either a cash flow hedge or a fair value hedge, at management's discretion.
  4. Neither a cash flow hedge nor a fair value hedge.

Either a cash flow hedge or a fair value hedge, at management's discretion.

A hedge to offset the risk of loss on a recognized asset or liability could be either a cash flow hedge or a fair value hedge, at management's discretion. If the risk of loss on the recognized asset or liability being hedged is from changes in exchange rates, the hedge would be classified as a cash flow hedge.

45

Which of the following statements concerning the determination of a functional currency is/are correct?

  • I. The functional currency can be selected at management's discretion.
  • II. The functional currency could be the recording currency of the foreign entity.
  • III. The functional currency could be the reporting currency of a parent.

II and III ONLY.

The functional currency could be either the recording currency of the foreign entity (Statement II) or the reporting currency of a parent (Statement III) (or even another foreign currency). The functional currency will be the currency of the primary economic environment in which an entity operates and primarily generates and expends cash, not whatever currency management chooses (Statement I).

46

In which one of the following independent circumstances would the local foreign currency of a country least likely be the functional currency for a manufacturing subsidiary of a U.S. company located in that country?

  1. The subsidiary's operations are relatively self-contained and integrated in the foreign country, which is not experiencing hyperinflation.
  2. The economy of the foreign country in which the subsidiary is located has experienced an inflationary rate of between 15% and 20% each of the last 5 years.
  3. The subsidiary generates most of its cash flows from sales and other activities in the foreign country in which it is located.
  4. The subsidiary makes all of its product for sale to and for use by its U.S. parent.

The subsidiary makes all of its product for sale to and for use by its U.S. parent.

If a subsidiary makes all of its product for sale to and for use by its parent, the subsidiary is likely to be a direct and integral extension of its parent and, therefore, the parent's currency is likely to be the functional currency, not the local foreign currency of the subsidiary. In the circumstances described, the subsidiary likely receives virtually all of its cash inflow from its parent, which it converts to the local currency for operating costs. Therefore, it generates most of its cash flows in the U.S. dollar, and that is its functional currency, not the local foreign currency.

47

Which one of the following would constitute a highly inflationary economy when determining the functional currency of a foreign entity?

  1. 20% inflation for each of the past 5 years.
  2. 30% inflation for each of the past 3 years.
  3. 35% inflation for each of the past 3 years.
  4. 20%, 35%, and 40% inflation, respectively, for each of the past 3 years.

35% inflation for each of the past 3 years.

For determining a functional currency, a highly inflationary (hyperinflationary) economy is one that has experienced a cumulative inflation of 100% or more over the past 3 years. Inflation of 35% per year over the past three years is a cumulative 105% and constitutes a highly inflationary economy.

48

A subsidiary's functional currency is the local currency which has not experienced significant inflation. The appropriate exchange rate for translating the depreciation on plant assets in the income statement of the foreign subsidiary is the:

  1. Exit exchange rate.
  2. Historical exchange rate.
  3. Weighted average exchange rate over the economic life of each plant asset.
  4. Weighted average exchange rate for the current year.

Weighted average exchange rate for the current year.

The weighted average exchange rate for the current year is the correct rate to use to convert depreciation expense. Since the functional currency is the local currency, the income statement of the subsidiary would be converted using translation, which requires the use of the exchange rate when a revenue/gain was earned or expense/loss was incurred, or the weighted average exchange rate for the year. Since depreciation expense is incurred throughout the year, the weighted average exchange rate normally is the appropriate basis for conversion.

49

Panco, a U.S. entity, has a subsidiary, Sanco, located in a foreign country. Sanco's operations are concentrated in the country in which it is located and are essentially independent of Panco. The economy of the foreign country is not highly inflationary. Which one of the following processes should Panco use to convert Sanco's financial statements to dollar-based statements for consolidation purposes?

  1. Translation.
  2. Remeasurement.
  3. Translation, and then remeasurement
  4. Remeasurement, and then translation.

Translation.

Because Sanco operations are concentrated in the country in which it is located and essentially independent of Panco, and the economy of the foreign country is not highly inflationary, Sanco's local foreign currency is its functional currency. Therefore, its financial statements expressed in the foreign currency will be converted to U.S. dollars using translation.

50

Orr Corporation had a realized foreign exchange loss of $13,000 for the year ended December 31, 2008, and must also determine whether the following items will require year-end adjustment.

  • Orr had a $7,000 gain resulting from the translation of the accounts of its wholly owned foreign subsidiary for the year ended December 31, 2008.
  • Orr had an account payable to an unrelated foreign supplier payable in the supplier's local currency. The U.S. Dollar equivalent of the payable was $60,000 on October 31, 2008 and $64,000 on December 31, 2008. The invoice is payable on January 30, 2009.

In Orr's 2008 consolidated income statement, what amount should be included as foreign exchange loss?

  1. $ 6,000
  2. $10,000
  3. $13,000
  4. $17,000

$17,000

The correct amount of foreign exchange loss is $17,000. The $4,000 loss on the account payable ($64,000 - $60,000 = $4,000) would be included in net income. Therefore, the correct amount of foreign exchange loss is $13,000 + $4,000 = $17,000. The translation loss (or gain) would not be included in net income for the year, but rather would be reported as an item of other comprehensive income (outside net income) for the year.

51

In converting financial statements from a foreign currency to a reporting currency, which one of the following accounts would not be translated using an exchange rate?

  1. Accounts receivable.
  2. Bonds payable.
  3. Common stock.
  4. Retained earnings.

Retained earnings.

When converting financial statements from a foreign currency to a reporting currency using translation (or remeasurement), retained earnings is not translated using an exchange rate. Rather, retained earnings is calculated using already converted values. Specifically, beginning retained earnings in dollars + converted net income - converted dividends declared = ending retained earnings in dollars.

52

Which one of the following would not be translated using either the spot exchange rate as of the balance sheet date or the weighted average exchange rate for the period?

  1. Cash.
  2. Accounts payable.
  3. Common stock.
  4. Investments held-for trading.

Common stock.

When converting financial statements from a foreign currency to a reporting currency using translation, paid-in capital accounts are translated using the historic exchange rate in effect when the account amount arose (or when the investment was made, if later). Therefore, common stock would not be translated using either the spot (or current) exchange rate as of the balance sheet date or the weighted average exchange rate for the period, but the historic exchange rate for the common stock.

53

A foreign subsidiary's functional currency is its local currency, which has not experienced significant inflation. The weighted average exchange rate for the current year would be the appropriate exchange rate for translating:

  • Sales to Customers
  • Wages Expense

  • Sales to Customers - YES
  • Wages Expense - YES

Since the functional currency is the local currency, the income statement of the subsidiary would be converted using translation, which requires the use of the exchange rate when a revenue/gain was earned or expense/loss was incurred, or the weighted average exchange rate for the year. Therefore, the weighted average exchange rate for the current year would be an appropriate rate for converting both sales to customers and wages expense.

54

Which one of the following could not be translated using the weighted average exchange rate for the fiscal year?

  1. Rent expense.
  2. Cash.
  3. Sales.
  4. Wage expense.

Cash.

When converting financial statements from a foreign currency to a reporting currency using translation, assets and liabilities are translated using the spot (or current) exchange rate as of the balance sheet date, not the weighted average exchange rate for the period. Therefore, cash could not be translated using the weighted average exchange rate for the fiscal year.

55

The functional currency of Nash Inc.'s subsidiary is the Euro. Nash borrowed Euros as a partial hedge of its investment in the subsidiary. In preparing consolidated financial statements, Nash's translation loss on its investment in the subsidiary exceeded its exchange gain on the borrowing. How should the effects of the loss and gain be reported in Nash's consolidated financial statements?

  1. The translation loss and the exchange gain are reported separately in other comprehensive income.
  2. The translation loss less the exchange gain is reported in the income statement.
  3. The translation loss is reported separately in other comprehensive income, and the exchange gain is reported in the income statement.
  4. The translation loss is reported in the income statement, and the exchange gain is reported separately in other comprehensive income.

The translation loss and the exchange gain are reported separately in other comprehensive income.

Since the borrowing was intended to hedge Nash's investment in its foreign subsidiary (operation), the exchange gain on the borrowing would offset the translation loss on the investment, with both being reported as translation adjustment items in other comprehensive income.

56

Which of the following should be reported as a debit to other comprehensive income in preparing the statement of comprehensive income?

  1. Translation gain.
  2. Translation loss.
  3. Remeasurement gain.
  4. Remeasurement loss.

Translation loss.

Translation gains and losses are reported in other comprehensive income; a translation loss would result in a debit (decrease) to other comprehensive income. A translation gain would result in a credit (increase) to other comprehensive income.

57

Eagle, Inc. is a manufacturer and distributor of consumer products in the U.S. It has a wholly owned foreign subsidiary, El Rio, which sells Eagle products in Mexico. El Rio receives all of its products from Eagle, sells those products, and remits the proceeds to Eagle. El Rio maintains its books and prepares its financial statements in the Mexican peso. Which one of the following methods will Eagle most likely use to convert El Rio's financial statements to dollar-based statements?

  1. Translation.
  2. Remeasurement.
  3. Translation and then remeasurement.
  4. Remeasurement and then translation.

Remeasurement.

 

58

Papco, a U.S. entity, has a subsidiary, Sapco, located in a foreign country. Sapco is essentially a sales unit for Papco. After remeasuring Sapco's financial statements from the foreign currency to Papco's reporting currency, Papco determined that it had a loss on the remeasurement. How should Papco report the loss in its consolidated financial statements?

  1. As an extraordinary loss.
  2. As income from continuing operations.
  3. As an item of other comprehensive income.
  4. As a deferred item until the subsidiary is sold.

As income from continuing operations.

Under the remeasurement method of converting from a foreign currency to a reporting currency, any resulting loss (or gain) is reported as an item of income from continuing operations in current income.

59

A balance arising from the translation or remeasurement of a subsidiary's foreign currency financial statements is reported in the consolidated income statement when the subsidiary's functional currency is the:

  • Foreign currency   
  • U.S. dollar

  • Foreign currency - NO  
  • U.S. dollar - YES

Two different methods can be used for converting the financial statements of a foreign subsidiary, either translation or remeasurement. Which method is used depends on the functional currency of the foreign subsidiary. If the local foreign currency is the functional currency, the statements are translated. If the U.S. dollar is the functional currency, the statements are remeasured. Remeasurement gains and losses affect the income statement, while translation gains or losses are carried directly to an equity account, bypassing the income statement entirely.

This response is correct because a balance arising from remeasurement is reported in the income statement whenever the U.S. dollar is the functional currency (which requires that the financial statements be remeasured).

60

Eagle, Inc. is a manufacturer and distributor of consumer products in the U.S. It has a wholly owned foreign subsidiary, El Rio, which sells Eagle products in Mexico. El Rio receives all of its products from Eagle, sells those products, and remits the proceeds to Eagle. El Rio maintains its books and prepares its financial statements in the Mexican peso. Which one of the following methods will Eagle most likely use to convert El Rio's financial statements to dollar-based statements?

  1. Translation.
  2. Remeasurement.
  3. Translation and then remeasurement.
  4. Remeasurement and then translation.

Remeasurement.

Because El Rio's operations are a direct extension of Eagle, the peso is not El Rio's functional currency; Eagle's currency, the U.S. dollar, is El Rio's functional currency. Therefore, El Rio's financial statements will be converted to U.S. dollars using remeasurement.

61

Remeasurement, based on the temporal method of conversion, converts foreign currency amounts to reporting currency amounts using different exchange rates for different accounts based on which of the following distinctions?

  1. Current and non-current.
  2. Monetary and non-monetary.
  3. Asset and liability.
  4. Income statement and balance sheet.

Monetary and non-monetary.

The distinction used for applying different exchange rates to different accounts when using remeasurement is based on whether the account is monetary or non-monetary.

62

Which one of the following would not be remeasured using a historic exchange rate?

  1. Cash.
  2. Inventories carried at cost.
  3. Property, plant, and equipment.
  4. Common stock.

Cash.

Under the remeasurement method of converting financial statements from a foreign currency to a reporting currency, monetary assets and liabilities are converted using the current exchange rate, not a historic exchange rate. Therefore, cash (the most monetary of assets) would be converted using the current exchange rate, not a historic exchange rate.

63

Which one of the following expenses would be remeasured using a historic exchange rate?

  1. Rent expense.
  2. Wage expense.
  3. Depreciation expense.
  4. Selling expenses.

Depreciation expense.

Under the remeasurement method of converting financial statements from a foreign currency to a reporting currency, most expenses (and revenues, gains, and losses) are converted using the current exchange rate. Expenses related to assets and liabilities converted at a historic rate are an exception - they are converted using a historic exchange rate. Therefore, since depreciation expense does result from an asset (property, plant, and equipment) measured using a historic exchange rate, depreciation expense would be remeasured using a historic exchange rate.

64

Which one of the following sets shows the correct reporting of an adjustment (gain or loss) that results from translation and one that results from remeasurement of financial statements from a foreign currency to a reporting currency?

  • Translation Adjustment
  • Remeasurement Adjustment 

  • Translation Adjustment - OCI
  • Remeasurement Adjustment - IFCO (IS)

An adjustment resulting from translation of financial statements would be reported in other comprehensive income, and an adjustment resulting from remeasurement would be reported in net income.

65

If the functional currency of a foreign subsidiary is a foreign currency other than the subsidiary's recording currency, which one of the following will be used to convert the subsidiary's financial statements to the final reporting currency?

  1. Translation.
  2. Remeasurement.
  3. Translation and then remeasurement.
  4. Remeasurement and then translation.

Remeasurement and then translation.

Remeasurement and then translation would be used to convert to the reporting currency when a foreign currency other than the foreign subsidiary's recording currency is the functional currency. Specifically, the financial statements would be remeasured from the recording currency to the other foreign functional currency, and the remeasured financial statements would then be translated to the reporting currency

66

Gordon Ltd., a 100% owned British subsidiary of a U.S. parent company, reports its financial statement in local currency, the British pound. A local newspaper published the following U.S. exchange rates to the British pound at year end:

  • Current rate $1.50
  • Historical rate (acquisition) $1.70
  • Average rate $1.55
  • Inventory (FIFO) $1.60

Which currency rate should Gordon use to convert its income statement to U.S. dollars at year end?

  1. $1.50
  2. $1.55
  3. $1.60
  4. $1.70

$1.55

Since Gordon prepares its financial statements in its local currency, the British pound, and since the British economy has not been in hyperinflation, Gordon's functional currency would be the British pound, and its financial statements would be converted to U.S. dollars using translation, not remeasurement. Under the translation method of converting, income statement items are converted using the average exchange rate for the period.

67

Which of the following rates may be used to translate the cash flow statement?

  • I.  Historical exchange rates.
  • II.  Current exchange rates.
  • III.  Weighted-average rates.
  1. I only
  2. I and II
  3. III only
  4. I and III

I and III

The cash flow statement may be translated at the rates in effect at the time the transaction occurred (historical exchange rates) or at weighted-average exchange rates if not substantially different.

68

The balance in Bart Corp.’s foreign exchange loss account was $13,000 at December 31, year 1, before any necessary year-end adjustment relating to the following:

  • Bart had a $20,000 loss resulting from the translation of the accounts of its wholly owned foreign subsidiary for the year ended December 31, year 1.
  • Bart had an account payable due to an unrelated foreign supplier payable in the local currency of the foreign supplier on January 27, year 2.  The US dollar equivalent of the payable was $100,000 on the November 28, year 1 invoice date, and it was $106,000 on December 31, year 1.

In Bart’s year 1 consolidated income statement, what amount should be included as foreign exchange loss?

  1. $33,000
  2. $27,000
  3. $19,000
  4. $13,000

$19,000

Translation adjustments result from translating an entity’s financial statements into the reporting currency. Such adjustments, which result when the entity’s functional currency is the foreign currency, should not be included in net income. Instead, such adjustments should be reported as components of "other comprehensive income" and accumulated other comprehensive income in stockholders’ equity. (Note that if the functional currency was the reporting currency, a remeasurement process would have been used instead of translation, with the resulting gain or loss included in income.) The $20,000 translation loss is not reported on the income statement. In contrast, gains and losses which result from foreign exchange transactions (purchases/sales) are reported on the income statement. Therefore, Bart should report the $13,000 foreign exchange loss, plus the $6,000 foreign exchange loss ($106,000 year-end liability less $100,000 original liability), for a total loss of $19,000.

69

Fogg Co., a US company, contracted to purchase foreign goods. Payment in foreign currency was due 1 month after the goods were received at Fogg’s warehouse. Between the receipt of goods and the time of payment, the exchange rates changed in Fogg’s favor. The resulting gain should be included in Fogg’s financial statements as a(n)

  1. Component of income from continuing operations.
  2. Extraordinary item.
  3. Deferred credit.
  4. Component of "other comprehensive income" and stockholders’ equity.

Component of income from continuing operations.

According to ASC Topic 830, a foreign currency transaction is a transaction denominated in a currency other than the entity’s functional currency. Denominated means that the balance is fixed in terms of the number of units of foreign currency, regardless of changes in the exchange rate. In this type of transaction, the entity assumes the risk of fluctuating exchange rates which would result in the incurrence of a gain or loss. Per ASC Topic 830, such gains or losses are reported as a component of income from continuing operations.

70

A sale of goods, denominated in a currency other than the entity’s functional currency, resulted in a receivable that was fixed in terms of the amount of foreign currency that would be received. Exchange rates between the functional currency and the currency in which the transaction was denominated changed. The resulting gain should be included as a

  1. Translation gain reported as "other comprehensive income" and a separate component of stockholders’ equity.
  2. Translation gain reported as a component of income from continuing operations.
  3. Transaction gain reported as "other comprehensive income" and a separate component of stockholders’ equity.
  4. Transaction gain reported as a component of income from continuing operations.

Transaction gain reported as a component of income from continuing operations.

ASC Topic 830 states that the increase (decrease) in expected functional currency cash flows is a foreign currency transaction gain (loss) that shall be included in determining net income for the period in which the exchange rate changes. The gain (loss) is shown on the income statement under other income as part of income from continuing operations.

71

The functional currency of Nash, Inc.’s subsidiary is the Swiss franc. Nash borrowed Swiss francs as a partial hedge of its investment in the subsidiary. In preparing consolidated financial statements, Nash’s translation loss on its investment in the subsidiary exceeded its exchange gain on the borrowing. How should the effects of the loss and gain be reported in Nash’s consolidated financial statements?

  1. The translation loss less the exchange gain is reported as "other comprehensive income" under one of three alternatives and "accumulated other comprehensive income" in the stockholders’ equity section of the balance sheet.
  2. The translation loss less the exchange gain is reported in the income statement.
  3. The translation loss is reported separately as "other comprehensive income" and in the stockholders’ equity section of the balance sheet and the exchange gain is reported in the income statement.
  4. The translation loss is reported in the income statement and the exchange gain is reported as "other comprehensive income" and in the stockholders’ equity section of the balance sheet.

The translation loss less the exchange gain is reported as "other comprehensive income" under one of three alternatives and "accumulated other comprehensive income" in the stockholders’ equity section of the balance sheet.

According to ASC Topic 830, translation adjustments resulting from the translation of foreign currency statements should be reported separately as a component of "other comprehensive income" under one of three alternatives and in "accumulated other comprehensive income" in stockholders’ equity. Additionally, gains and losses on certain foreign currency transactions should be reported in the same manner. Those gains and losses which should be excluded from net income and instead reported in "other comprehensive income" and as a component of stockholders’ equity include foreign currency transactions designated as economic hedges of a net investment in a foreign entity. Thus, both the translation loss and the exchange gain are to be reported as "other comprehensive income" and in the stockholders’ equity section of the balance sheet.

72

A subsidiary’s functional currency is the local currency, which has not experienced significant inflation. The appropriate exchange rate for translating the depreciation on plant assets in the income statement of the foreign subsidiary is the

  1. Exit exchange rate.
  2. Historical exchange rate.
  3. Weighted-average exchange rate over the economic life of each plant asset.
  4. Weighted-average exchange rate for the current year.

Weighted-average exchange rate for the current year.

ASC Topic 830 specifies that when the functional currency is the foreign currency, exchange rates for expenses should be those in effect at the time transactions are recorded during the current period. However, the statement also says that weighted-average rates can be used for items occurring numerous times during the accounting period. Such weighted-average rates may also be used for accounting allocations such as depreciation.

73

For IFRS reporting, if the functional currency is the same as the presentation currency, any translation gains or losses are generally reported as

  1. A gain or loss on the statement of income.
  2. A gain or loss in other comprehensive income.
  3. A gain or loss directly in the retained earnings account.
  4. An extraordinary item on the statement of income.

A gain or loss on the statement of income.

If the functional currency is the same as the presentation currency, any translation gain or loss is reported in current earnings on the income statement. However, there are several exceptions to this rule. Currency gains or losses on nonmonetary items for which gains and losses are recorded in other comprehensive income should also be reported in other comprehensive income.

74

Gains from remeasuring a foreign subsidiary’s financial statements from the local currency, which is not the functional currency, into the parent company’s currency should be reported as a(n)

  1. Deferred foreign exchange gain.
  2. "Other comprehensive income" and as a separate component of stockholders’ equity.
  3. Extraordinary item, net of income taxes.
  4. Part of continuing operations.

Part of continuing operations.

All remeasurement gains and losses from remeasuring assets and liabilities that are not denominated in the functional currency must be recognized currently in income.

75

If one Canadian dollar can be exchanged for 90 cents of United States money, what fraction should be used to compute the indirect quotation of the exchange rate expressed in Canadian dollars?

  1. 1.10/1
  2. 1/1.10
  3. 1/.90
  4. .90/1

1/.90

The direct quotation is the rate expressed in US dollars. It means that $.90 can be exchanged for 1 Canadian dollar. The direct quotation is $.90/1. The indirect quotation is the inverse of the direct quotation or 1/$.90.

76

Gordon Ltd., a 100% owned British subsidiary of a US parent company, reports its financial statements in local currency, the British pound. A local newspaper published the following US exchange rates to the British pound at year-end:

  • Current Rate $1.50
  • Historical rate (acquisition) $1.70
  • Average rate $1.55
  • Inventory (FIFO) $1.60

Which currency ratio should Gordon use to convert its income statement to US dollars at year­end?

  1. 1.50
  2. 1.55
  3. 1.60
  4. 1.70

1.55

Per ASC Topic 830, if the functional currency equals the local currency, the current rate method is used. This answer is correct because the current rate method requires income statement items (revenues and expenses) to be translated using the weighted-average rate, $1.55.

77

Which of the following is not an IFRS requirement regarding foreign currency translation?

  1. Nonmonetary items measured at historical cost are translated at the historical exchange rate.
  2. Monetary items are translated at the year-end spot rate.
  3. If the functional currency is the same as the presentation currency, gains or losses are reported in profit and loss for the period.
  4. If the functional currency is not the same as the presentation currency, gains or losses are deferred to future periods.

If the functional currency is not the same as the presentation currency, gains or losses are deferred to future periods.

Under IFRS reporting, if the functional currency is not the same as the presentation currency, gains or losses are charged to other comprehensive income, not deferred to future periods.

78

On January 1, year 1, Kiner Company formed a foreign branch. The branch purchased merchandise at a cost of 720,000 local currency units (LCU) on February 15, year 1. The purchase price was equivalent to $180,000 on this date. The branch’s inventory at December 31, year 1, consisted solely of merchandise purchased on February 15, year 1, and amounted to 240,000 LCU. The exchange rate was 6 LCU to $1 on December 31, year 1, and the average rate of exchange was 5 LCU to $1 for year 1. Assume that the LCU is the functional currency of the branch. In Kiner’s December 31, year 1 balance sheet, the branch inventory balance of 240,000 LCU should be translated to United States dollars at

  1. $40,000
  2. $48,000
  3. $60,000
  4. $84,000

$40,000

Per ASC Topic 830, if the functional currency is that of the foreign branch or subsidiary, assets and liabilities are translated using the exchange rate at the balance sheet date. This exchange rate is 6 LCU to $1. Therefore, the inventory balance of 240,000 LCU is translated to $40,000 (240,000/6).