chapter 9 imsm

8/10/2019 Chapter 9 IMSM

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CHAPTER 9FOREIGN CURRENCY TRANSACTIONS AND

HEDGING FOREIGN EXCHANGE RISK

Chapter Outline

I. In todays global economy, a great many companies deal in currencies other than theirreporting currencies.

A. Merchandise may be imported or exported with prices stated in a foreign currency.B. For reporting purposes, foreign currency balances must be stated in terms of the

companys reporting currency by multiplying it by an exchange rate.C. Accountants face two uestions in restating foreign currency balances.

!. "hat is the appropriate exchange rate for restating foreign currency balances#$. %ow are changes in the exchange rate accounted for#

&. Companies often engage in foreign currency hedging acti'ities to a'oid the ad'erseimpact of exchange rate changes.

(. Accountants must determine how to properly account for these hedging acti'ities.II. Foreign exchange rates are determined in the foreign exchange mar)et under a 'ariety of

different currency arrangements.A. (xchange rates can be expressed in terms of the number of *.+. dollars to purchase

one foreign currency unit direct uotes- or the number of foreign currency units thatcan be obtained with one *.+. dollar indirect uotes-.

B. Foreign currency trades can be executed on a spot or forward basis.!. he spot rate is the price at which a foreign currency can be purchased or sold

today.$. he forward rate is the price today at which foreign currency can be purchased or

sold sometime in the future.

/. Forward exchange contracts pro'ide companies with the ability to 0loc) in1 a pricetoday for purchasing or selling currency at a specific future date.C. Foreign currency options pro'ide the right but not the obligation to buy or sell foreign

currency in the future, and therefore are more flexible than forward contracts.

III. FA+B Accounting +tandards Codification opic 2/3, Foreign Currency Matters FA+B A+C2/3- prescribes accounting rules for foreign currency transactions.

A. (xport sales denominated in foreign currency are reported in *.+. dollars at the spotexchange rate at the date of the transaction. +ubseuent changes in the exchangerate until collection of the recei'able are reflected through a restatement of the foreigncurrency account recei'able with an offsetting foreign exchange gain or loss reportedin income. his is )nown as a two4transaction perspecti'e, accrual approach.

B. he two4transaction perspecti'e, accrual approach also is used in accounting forforeign currency payables. 5ecei'ables and payables denominated in foreigncurrency create an exposure to foreign exchange ris)6 this is the ris) that changes inthe exchange rate o'er time will result in a foreign exchange loss.

I7. FA+B Accounting +tandards Codification opic 2!8, &eri'ati'es and %edging FA+B A+C2!8- go'erns the accounting for deri'ati'e financial instruments and hedging acti'itiesincluding the use of foreign currency forward contracts and foreign currency options.

A. he fundamental reuirement is that all deri'ati'es must be carried on the balance

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2013Hoyle, Schaefer, o!pni",Advanced Accounting,11#e $-1

2013 by McGraw-Hill Education. This is proprietary material solely or authori!ed instructor use. "ot authori!ed or sale or distribution in any

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sheet at their fair 'alue. &eri'ati'es are reported on the balance sheet as assetswhen they ha'e a positi'e fair 'alue and as liabilities when they ha'e a negati'e fair'alue.

B *.+. 9AA: pro'ides guidance for hedges of the following sources of foreign exchangeris);!. foreign currency denominated assets and liabilities.

$. unrecogni


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commitment, $- recogni


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An!"er t# Di!$u!!i#n %ue!ti#n& D# 'e Ha(e a Gain #r 'hat)

his case demonstrates the differing )inds of information pro'ided through application ofcurrent accounting rules for foreign currency transactions and deri'ati'e financial instruments.

he Ahnuld Corporation could ha'e recei'ed @$33,333 from its export sale to chec)ia if it hadreuired immediate payment. Instead, Ahnuld allows its customer six months to pay. 9i'enthe future exchange rate of @!.3, Ahnuld would ha'e recei'ed only @!3,333 if it had notentered into the forward contract. his would ha'e resulted in a decrease in cash inflow of@/3,333. In accordance with current accounting standards, the decrease in the 'alue of thetchec) recei'able is recogni


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An!"er! t# %ue!ti#n!

!. *nder the two4transaction perspecti'e, an export sale import purchase- and thesubseuent collection payment- of cash are treated as two separate transactions to beaccounted for separately. he idea is that management has made two decisions; !- toma)e the export sale import purchase-, and $- to extend credit in foreign currency to the

foreign customer obtain credit from the foreign supplier-. he income effect from each ofthese decisions should be reported separately.

$. Foreign currency recei'ables resulting from export sales are re'alued at the end ofaccounting periods using the current spot rate. An increase in the 'alue of a recei'ablewill be offset by reporting a foreign exchange gain in net income, and a decrease will beoffset by a foreign exchange loss. Foreign exchange gains and losses are accrued e'enthough they ha'e not yet been reali


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is ad>usted to fair 'alue based on changes in the forward rate resulting in an asset orliability reported on the balance sheet-, with the counterpart recogni


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An!"er! t# Pr#*le+!

, C -F#rei.n e/$han.e .ain0l#!! #n 1#rei.n $urren$2 tran!a$ti#n3

An i+p#rt pur$ha!e $au!e! a 1#rei.n $urren$2 pa2a*le t# *e $arrie4 #nthe *##5! I1 the 1#rei.n $urren$2 4epre$iate!6 the 4#llar (alue #1 the1#rei.n $urren$2 pa2a*le 4e$rea!e!6 2iel4in. a 1#rei.n e/$han.e .ain

7 D -8eth#4 #1 a$$#untin. 1#r 1#rei.n $urren$2 tran!a$ti#n!3

Current a$$#untin. !tan4ar4! reuire a t"#:tran!a$ti#n per!pe$ti(e6a$$rual appr#a$h

; B -F#rei.n e/$han.e .ain0l#!! #n 1#rei.n $urren$2 tran!a$ti#n3

F#rei.n e/$han.e .ain! relate4 t# 1#rei.n $urren$2 i+p#rt pur$ha!e! aretreate4 a! a $#+p#nent #1 in$#+e *e1#re in$#+e ta/e! I1 there i! n#

1#rei.n e/$han.e .ain in #peratin. in$#+e6 then the pur$ha!e +u!t ha(e*een 4en#+inate4 in US 4#llar! #r there "a! n# $han.e in the (alue #1the 1#rei.n $urren$2 1r#+ O$t#*er , t# De$e+*er ,6 7CU re$ei(a*le ha! 4e$rea!e4 1r#+ ?,,


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?76


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,@:, -Opti#n 1air (alue he4.e #1 a 1#rei.n $urren$2 1ir+ $#++it+ent3

The ea!ie!t "a2 t# !#l(e pr#*le+! ,@ an4 , i! t# prepare L#urnal entrie!1#r the #pti#n 1air (alue he4.e an4 the 1ir+ $#++it+ent The L#urnalentrie! are a! 1#ll#"!&

90,0,;F#rei.n Curren$2 Opti#n ?76


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,@:, (continued)

Net impact on 2014 net income:Gain #n F#rei.n Curren$2 Opti#n ?


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,:7#!! #n F#r"ar4 C#ntra$t ?7@#!! #n Fir+ C#++it+ent ?-=69


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,,07< F#rei.n Curren$2 Opti#n ?=


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=


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=, -7< +inute!3 -Opti#n $a!h 1l#" he4.e #1 a 1#re$a!te4 tran!a$ti#n3

a

,70,@0,; F#rei.n Curren$2 Opti#n ?@6


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=, (continued)

AOCI ?,


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=7 (continued)

Part * F#r"ar4 C#ntra$t Fair alue He4.e #1 a F#rei.n Curren$2 >ia*ilit2

A$$#unt! Pa2a*le -C3 F#r"ar4 F#r"ar4 C#ntra$tSp#t US D#llar Chan.e in US Rate t# Chan.e in

Date Ratealue D#llar alue ,


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=7 (continued)

Part $ F#r"ar4 C#ntra$t Fair alue He4.e #1 a F#rei.n Curren$2 Fir+C#++it+ent -Pur$ha!e3

90,@ There i! n# 1#r+al entr2 1#r the 1#r"ar4 $#ntra$t #r the pur$ha!e #r4er

90;< F#r"ar4 C#ntra$t ?@69=


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=7 (continued)

Part 4 Opti#n Ca!h Fl#" He4.e #1 a F#rei.n Curren$2 >ia*ilit2

The 1#ll#"in. !$he4ule !u++arie! the $han.e! in the $#+p#nent! #1 the 1air(alue #1 the eur# $all #pti#n "ith a !tri5e pri$e #1 ?,


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=7 (continued)

,#!! ?,


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=7 (continued)

Part e Opti#n Fair alue He4.e #1 a F#rei.n Curren$2 Fir+ C#++it+ent-Pur$ha!e3

Fir+ C#++it+ent Opti#n F#rei.n Curren$2 Opti#n

Sp#t Chan.e in Pre+iu+ Chan.e inDate RateFair alue Fair alue 1#r ,


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Chapter 9 De(el#p Y#ur S5ill!

Re!ear$h Ca!eQInternati#nal Fla(#r! an4 Fra.ran$e!

The re!p#n!e! t# thi! a!!i.n+ent +i.ht $han.e #(er ti+e a! the $#+pan2$han.e! it! u!e #1 1#rei.n $urren$2 4eri(ati(e! #r $han.e! the +anner in"hi$h it 4i!$l#!e! it! 1#rei.n $urren$2 he4.in. a$ti(itie! in the annual rep#rtThe 1#ll#"in. re!p#n!e! are *a!e4 #n IFF! 7


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A$$#untin. Stan4ar4! Ca!eQF#re$a!te4 Tran!a$ti#n!

%ue!ti#n! a!5e4 in the $a!e are&

I! +ana.e+ent! intent !u11i$ient t# a!!e!! that a 1#re$a!te4 tran!a$ti#n i!li5el2 t# #$$ur)

I1 n#t6 "hat a44iti#nal e(i4en$e +u!t *e $#n!i4ere4)

S#ur$e #1 .ui4an$e& FASB ASC ,@:7


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E/$el Ca!eQDeter+ine F#rei.n E/$han.e Gain! an4 >#!!e!

,6 7 an4 ; Sprea4!heet 1#r the $al$ulati#n #1 the 1#rei.n e/$han.e .ain!-l#!!e!3 relate4 t# I+p#rt0E/p#rt C#+pan2! 1#rei.n $urren$2tran!a$ti#n! 1#r the 2ear 7


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Anal2!i! Ca!eQCa!h Fl#" He4.e

, Gi(en the ?6


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Curren$2 C#4e

F#rei.nCurren$2A$$#unt

Re$ei(a*le

US D#llaralue #n,70,=0,#!!3

Indian rupee IG5

22,3

33 @$3,338./ @!,8.$$ @ $/3.8!-

:hilippine peso :%: 2=,3

33 $3,33=./ !,$/.$! $2!.!-

Japanese yen J:H !,$,8

33 $3,332. $3,3$8.2! !.!$

Malaysian ringgit MH5 $,8

83 $3,332.8 $3,==. ==!.=!

@23,3$./8 @,=.$! @ 8/.!=-

S#ur$e #1 e/$han.e rate!& """/:rate!$#+6 Hi!t#ri$al >##5up

7 Pier Ten "#ul4 ha(e rep#rte4 a net 1#rei.n e/$han.e .ain #1 ?9;9@< in7


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C#++uni$ati#n Ca!eQF#r"ar4 C#ntra$t! an4 Opti#n!

T#& 8r De"e2 Nu5e+6 CEO6 Pal+ett# Bu. E/ter+inati#n C#+pan2 -PBEC3

The pri+ar2 a4(anta.e #1 u!in. 1#r"ar4 $#ntra$t! t# he4.e 1#rei.n e/$han.eri!5 i! that there i! n# $#!t t# enter int# the+ The 4i!a4(anta.e i! that the$#+pan2 i! #*li.ate4 t# e/$han.e 1#rei.n $urren$2 1#r 4#llar! at the$#ntra$te4 1#r"ar4 rate Depen4in. up#n the 1uture !p#t rate6 thi! +a2 #r+a2 n#t *e a4(anta.e#u! 1#r the $#+pan2 In $#ntra!t6 the pri+ar24i!a4(anta.e #1 u!in. 1#rei.n $urren$2 #pti#n! t# he4.e 1#rei.n e/$han.eri!5 i! that there i! an up:1r#nt $#!t in$urre4 t# pur$ha!e the+ The pri+ar2a4(anta.e i! that the $#+pan2 i! n#t reuire4 t# e/$han.e 1#rei.n $urren$21#r 4#llar! at the #pti#n !tri5e pri$e i1 it i! 4i!a4(anta.e#u! t# 4# !# The$#+pan2 $an !i+pl2 all#" the #pti#n t# e/pire une/er$i!e4 an4 the #nl2 $#!ti! the initial pre+iu+ that "a! pai4 t# a$uire the #pti#n

E/p#rter! !#+eti+e! u!e 1#r"ar4 $#ntra$t! t# he4.e e/p#rt !ale! -i+p#rt

pur$ha!e!3 "hen the 1#rei.n $urren$2 i! !ellin. at a 1#r"ar4 pre+iu+-4i!$#unt3 a! thi! l#$5! in pre+iu+ re(enue -4i!$#unt re(enue3 The ri!5a!!#$iate4 "ith thi! !trate.2 i! that the $u!t#+er +a2 #r +a2 n#t pa2 #nti+e I1 an e/p#rter enter! int# a 1#r"ar4 $#ntra$t t# !ell 1#rei.n $urren$26an4 the $u!t#+er 4#e! n#t pa2 #n ti+e6 the e/p#rter "ill nee4 t# pur$ha!e1#rei.n $urren$2 at the !p#t rate t# !ettle the 1#r"ar4 $#ntra$t Thi! i!e!!entiall2 the !a+e a! !pe$ulati#nM a .ain #r l#!! $#ul4 ari!e In thi! $a!e6the e/p#rter +i.ht *e *etter #11 *2 pur$ha!in. a 1#rei.n $urren$2 put #pti#nThe e/p#rter $an !i+pl2 all#" the #pti#n t# e/er$i!e i1 it ha! n#t re$ei(e41#rei.n $urren$2 1r#+ the $u!t#+er *2 the e/pirati#n 4ate

Sin$e PBEC i! +a5in. i+p#rt pur$ha!e!6 it ha! +#re $#ntr#l #(er the ti+in.#1 "hen it "ill nee4 1#rei.n $urren$2 In that $a!e6 it !h#ul4 *e !a1e t# enterint# a 1#r"ar4 $#ntra$t t# pur$ha!e 1#rei.n $urren$2 #n the 4ate "hen PBECplan! t# pa2 1#r it! pur$ha!e! H#"e(er6 there i! al"a2! the ri!5 that the!upplier 4#e! n#t 4eli(er #n ti+e6 in "hi$h $a!e the 1#r"ar4 $#ntra$tpr#(i4e! PBEC "ith 1#rei.n $urren$2 1#r "hi$h it ha! n# $urrent u!e

The *#tt#+ line i! that there i! n# ri.ht #r "r#n. an!"er t# the ue!ti#n"hi$h he4.in. in!tru+ent !h#ul4 *e u!e4 t# he4.e the S"i!! 1ran$ e/p#!uret# 1#rei.n e/$han.e ri!5 B#th 1#r"ar4 $#ntra$t! an4 #pti#n ha(e thea4(anta.e! an4 4i!a4(anta.e!

chapter 9 imsm

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