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Flashcards in Foreign Operations Deck (15)
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1
Q

Foreign Currency Types (ASC 830)

A
  1. May enter into foreign currency transactions with an entity in a foreign country that involves a receipt or payment in a foreigncurrency. The entity must detmine how that transaction will be reported in US dollars.
  2. An entity may have a receivable or payable on its financial statements that is denominated in a foreign currency, meaning it will be settled by the receipt or payment of some amount of foreign currency. The amount of the receivable or payable must be converted into US dollars for nclusion on the reporting entity’s financial statements.
  3. An entity may get involved in foreign currency exchange transactions, such as forward exchange contracts. These transactions may be entered into for a variety of reasons but regardless, often result in a net amount being paid or received to settle the contract, representing a liability or asset.
  4. An entity may have a foreign division or subsidiary that maintains books and records in a foreign currency but will be included in the reporting entity’s consolidated financial statements. The financial statements must be converted into US dollars in order to include them.
2
Q

Foreign Currency Transactions

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  • intially recognized in the functional currency of the entity using the exchange rate in effect on the date of the transaction (referred to as the spot rate)
3
Q

Functional Currency

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  • Functional currency is the currency that has the greatest econcomic impact on the entity’s financial performance.
  • generally the entity’s functional currency is its local currencty however that is not always the case as described below
  • (I.e. company in upstate Washington may purchase inventory from Canadian company and sell products to mostly canadian thus despite that Financials are in USD the functional currency is the canadian dollar.
  • factors to consider:
    • cash flows
    • sales prices
    • demand for the company’s products and services
    • expense
    • financing and financing costs
    • intra-entity arrangements
4
Q

Transactional Currency

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Local (“Recording currency”) –> the currency of a particlay country. Usually books and records are kept.

5
Q

Reporting Currency

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currency in which the enterprise prepares its financial statements

6
Q

Financial Instruments Denominated in a Foreign Currency

A

When the entity has financial instruments, such as receivables or payables, that are denominated in a foreign currency, they are adjusted for changes in exchange rates as of each B/S date.

  • the carrying value of the financial instrument will be remeasrued based on the spot rate on the balance sheet date.
  • any increase/decrease is generally recognized as income or loss as a foreign currency transaction gain/loss.

Foreign Currency Exchange loss xx

Due to X Company xx

7
Q

Foreign Currency Exchange Transactions

A
  • Agreement to exchange one currency for another at a specific exchange rate at a specific future point in time.
  • Some companies enters into forward exchange contracts as hedges. This would be the case if the entity has an “exposure” that is denominated in a foreign curency and its desires protection from fluctuations in exchange rates.
  • other companies may enter into forward exchange transactions for speculation purposes.
  • Another reason to enter into forward exchange contrats is to “protect” the reported value of an investment on their financial statements.
8
Q

Speculation Characteristics

A
  • unless an entity qualifies for and chooses to account for its forward exchange contracts as hedges, they will be accounted for as if entered into for speculation purposes.
  • forward exchange contracts are forms of derivatives and all derivatives that are not designated as hedges are required to be reported at their fair values with gains and losses resulting from fluctuations of those values reported in profit or loss (I/S)
  • Rates that may be used:
    • Spot rate which is the actual exchange rate on a particular date or
    • Forward rate, which is what the exchange rate is expected to be at some point in the future
9
Q

Hedging Characteristics

A
  • when a forward exchange contract is entered into for the purposes of mitigating or eliminating a risk, it is referred to as a hedge.
  • must designate the dervative as a hedge AND
  • meet certain requirements including documnetation regarding the relationship between the hedge and the hedged risk and an indication that the hedge is expected to be highly effective, with an explantion as to how the entity measures the hedge’s effectiveness.
  • Must determine if cash flow or fair value derivative.
10
Q

Fair Value Hedges

A
  • protects a company against risks associated with changes in fair values, such as the fair value of a reported asset/liability (hedging against a recognized asset/liability on the B/S or a firm purchase commitment)
  • since all derivatives are recorded at fair value the carrying value will be increased or decreased on each balance sheet date
  • the increase or decrease will be recogniaed as a gain/loss on I/S
  • a corresponding loss or gain will be recognized in the same period regardless of the normal accounting for the item
11
Q

Cash Flow Hedges

A
  • protects an entity from fluctuation in cash flows
  • if an entity enters into a contract involving a receivable or payable that will be settled in a foreign currency at some point in the future (forecasted transaction that is expected to take place in the future - anticipated transaction) the entity may enter into a forward exchange contract to make certain that the number of dollars required to settle the contract do not fluctuate as the exchange rate changes.
  • must be adjusted to its fair value on each balance sheet date
  • Change is report to OCI on the B/S
  • the amount in OCI is reversed when the effect is recognized on the hedged transaction.
12
Q

Foreign Investees

A
  • when company has an investment in a foreign division or subsidiary that will be included in the company’s consolidated financial statements, it must convert the foreign entity’s financial info for its local currency in which it maintains its books and records inth the parents reporting currecny, presumably the US dollar.
  • the process to convert will depend on the functional currency.
    • if the functional currency is the local currency the process is referred to as translation (B/S)
    • if the functional currency is the US dollar, the process is referred to as remeasurement (I/S)
13
Q

Translation of Financial Statements

A
  • when local currency = functional currency, the parent will translate the F/S of subsidiary into US dollars
  • basic principles of translation are:
    • assets and liabilities are translated at the current exchange rate, which is the exchange rate at the B/S date.
    • income statement items are translated at the exchange rates effective on the date that those items are recognized on the financial statements
      • sales that occurred uniformly throughout the year, for example would be translated at the weighted average exchange rate
      • gain on the sale of a piece of equipment will be translated using the rate in effect on the date the gain was realized.
      • intra equity income and expense items that are eliminated in consolidation are transalted at the exchange rate in effect on the date of the intra entity exchange
    • the amount required to balance the entry is referred to as a translation adjustment
      • the translation adjustment occurs because items are being translated at differnt exchange rates and the result is not likely to balance
      • the translation adjustment is not recognized in income but is included in other OCI

​Normal Process:

  1. translate all income statement items (weighted average) this will provide a translated amount for net income
  2. translate items on the B/S as follows:
    1. assets and laiblities are translated using the ates at the B/S date (end)
    2. contributed capital accounts (c/s & apic) are translated using historical rates
    3. retained earnings is “rolled forward”. net income derived from translating the income statement is added to the ending balance from the PP. Dividends are translated using the rate in effect on the date of the dividend. the result is the current period’s ending balance of retained earnings.
  3. The difference will be in the translation adjustment recognized in OCI on the B/S
14
Q

Remeasurement of Financial Statements

A
  • when the functional currency is the reporting currency, presumably the US dollar, in order to prepare consolidated F/S that are expressed in $, the parent will remeasure the F/S of the subsidiary into US $.
  • basic principles of remeasurement are:
    • certain balance sheet items (non-monetary assets/liabilities) are remeasured at historical rates, the rate that was in effect when acquired/incurred/contributioned
      • marketable securites and inventory carried at cost
      • prepaid expenses
      • PPE and accumulated depreciation
      • intangibles
      • deferred charges, credits and deferred income
      • preferred stock carried at issuance price and common stock
      • revenue and expenses that are nonmonetary in nature such as cost of sales, depreciation, and amoritzation
    • Monetary assets/liabilities are remeasured at the exchange rate at the B/S date
    • remeasurement of revenues, expense, gains, or losses (I/S) will be determined by thier natures
      • many revenue and expenses that are incurred throughout the period will be remeasured at the weighted average exchange rate
      • gains and losses will be remeasured using the rates in effect on the dates of the transactions generating the gains/losses
      • revenues and expenses that are nonmonetary in nature, such as cost of sales, depreciation, and amortization are remeasured using historical rates
        • depreciation and amortization are remeasured using the same rates that are applied to the items being depreciated and amortized
        • cost of sales is remeasured by remeasuring beginning and ending inventory at thier historical rates and purchases at the weighted average rates
      • the amount required to balance the entry is referred to as a remeasurement adjustment
        • the remeasurement adjustment occurs becase items are being remeasured at different exchange rates and the result is not likely to balance
        • the remeasurement adjustment is recognized in Income (I/S)

Normal Process:

  1. remeasure items on the B/S as follows:
    1. monetary assets/liabilities are remeasured using the rates at the balance sheet date
    2. Nonmonetary assets/liabilites and contributed capital are remeasured using historical rates based on when assets were acquired, liabilites were incurred, and capital was contributed
    3. the difference is retained earnings. The beginning balance will be rolled forward from the PP and dividends, remeasured using the rate in effect on the dividend date, are deducted. The difference between that amount and the ending balance is the current period’s net income or loss
  2. Remeasure all income statement items
  3. The difference between net income/loss and the result of remeasuring all income statement items will be the remeasurement adjustment recognized in income
15
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