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The current spot exchange rate is 1 euro is equivalent to 1.27 USD. Using the indirect method from the perspective of a European company, which of the following rates would show an appreciation of the USD? a. 0.74 euro = 1 USD b. 0.87 euro = 1 USD c. 1.15 USD = 1 euro d. 1.35 USD = 1 euro
c. 1.15 USD = 1 euro Explanation: From the perspective of a European company, an indirect method quote is 1 euro expressed in terms of U.S. dollars. An appreciation of the U.S. dollar would be a reduction in the number of dollars it takes to convert into 1 euro. In this case, if the current exchange rate is 1.27 U.S. dollars for 1 euro, a rate of 1.15 U.S. dollars per euro will be an appreciation of the U.S. dollar.
A company's foreign subsidiary operation maintains its financial statements in the local currency. The foreign operation's capital accounts would be translated to the functional currency of the reporting entity using which of the following rates? a. Historical exchange rate b. Functional exchange rate c. Weighted average exchange rate d. Current exchange rate at the balance sheet date
a. Historical exchange rate Explanation: Capital accounts are translated into the functional currency using the historical exchange rates.
The current exchange rate is 1.59 USD per British pound. If a retailer in Great Britain were to quote the exchange rate using the direct method, he would say: a. 1 British pound is equal to 1.59 USD b. 1 USD is equal to 1.59 British pounds c. 0.63 British pounds are equal to 1 USD d. 0.63 USD are equal to 1 British pound
c. 0.63 British pounds are equal to 1 USD Explanation: Quoting the exchange rate using the direct method involves quoting the domestic price of one unit of another currency. From the perspective of a retailer in Great Britain, the domestic currency is the British pound. So the appropriate quote will be 0.63 British pounds cost 1 U.S. dollar.
Which of the following items is reported in accumulated other comprehensive income? a. Cumulative foreign exchange translation loss b. Unrealized foreign exchange transaction gains c. Foreign exchange remeasurement gains and losses d. Unrealized losses on trading securities of foreign-based companies
a. Cumulative foreign exchange translation loss Explanation: Foreign translation adjustments are not included in determining net income for the period but are disclosed and accumulated as a part of other comprehensive income until the sale or liquidation of the foreign investment takes place.
On June 19, Don Co., a US company, sold and delivered merchandise on a 30-day account to Cologne GmbH, a German corporation, for 200,000 euros. On July 19, Cologne paid Don in full. Relevant currency exchange rates were: June 19 Spot rate: $0.988 30-day forward rate: $0.995 July 19 Spot rate: $0.990 30-day forward rate: $1.000 What amount should Don record on June 19 as an account receivable for its sale to Cologne? a. $197,600 b. $198,000 c. $199,000 d. $200,000
a. $197,600 Explanation: A transaction denominated in a foreign currency is recorded at the spot rate on the date of the transaction: $200,000 × .988 = $197,600. The transaction is not recorded at the forward exchange rate of .99.
Which of the following statements is true regarding the translation of foreign currency financial statements? a. Translation is not necessary if the financial statements are already denominated in the entity's functional currency b. Translation will restate the financial statements from the functional currency to the reporting currency c. Translation is necessary to restate the financial statements from the foreign currency tot he functional currency in order to perform the final remeasurement d. Translation will restate the financial statements from the foreign currency to the reporting currency, but only when the foreign currency is not the same as the functional currency
b. Translation will restate the financial statements from the functional currency to the reporting currency Explanation: Translation is the second step in restatement in cases in which the foreign currency does not already match the functional currency. Once the financial statements have been restated to the functional currency through remeasurement, they are then restated to the reporting currency through translation.
On September 22, Year 4, 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 $0.55. Yumi paid the bill in full on March 20, Year 5, when the spot rate was $0.65. The spot rate was $0.70 on December 31, Year 4. What amount should Yumi report as a foreign currency transaction loss in its income statement for the year ended December 31, Year 4? a. $0 b. $500 c. $1,000 d. $1,500
d. $1,500 Explanation: On September 22, the liability denominated in dollars equals $5,500 (10,000 units x $0.55 spot rate). On December 31, the liability denominated in dollars equals $7,000 (10,000 units x $0.70 spot rate). At year-end, the foreign currency transaction loss equals $1,500 ($7,000 − $5,500).
Which of the following should be reported in a stockholders' equity contra account? a. Discount on convertible bonds that are common stock equivalents b. Premium on convertible bonds that are common stock equivalents c. Cumulative foreign exchange translation loss D. Organization costs
c. Cumulative foreign exchange translation loss Explanation: Cumulative foreign exchange translation loss should be reported as a component of accumulated other comprehensive income. A cumulative foreign exchange translation loss would be a debit to accumulated other comprehensive income; therefore, contra to shareholders' equity. Rule: "Translation" adjustments are not included in determining net income for the period but are disclosed and accumulated as a component of other comprehensive income in consolidated equity until sale or until liquidation of the investment takes place.
Fay Corp. had a realized foreign exchange loss of $15,000 for the year ended December 31, Year 1, and must also determine whether the following items will require year-end adjustment: Fay had an $8,000 loss resulting from the translation of the accounts of its wholly-owned foreign subsidiary for the year ended December 31, Year 1. Fay had an account payable to an unrelated foreign supplier payable in the supplier's local currency. The US dollar equivalent of the payable was $64,000 on the October 31, Year 1, invoice date, and it was $60,000 on December 31, Year 1. The invoice is payable on January 30, Year 2. In Fay's Year 1 consolidated income statement, what amount should be included as foreign exchange loss? a. $11,000 b. $15,000 c. $19,000 d. $23,000
a. $11,000 Explanation: Foreign exchange loss before adjustment $15,000 A/P: US Equivalent at invoice date $64,000 US Equivalent at payment date $60,000 Payable exchange gain $4,000 Foreign exchange loss included in consolidated income statement $15,000 - $4,000 = $11,000
When a multinational company issues its annual consolidated financial statements, they are always based on the: a. Combined currencies b. Reported currency c. Functional currency d. Local currency
b. Reported currency Explanation: When a company has foreign operations, the consolidated financial statements will be prepared using the reporting or parent currency.
Certain balance sheet accounts of a foreign subsidiary of Rowan, Inc., at December 31 have been translated into US dollars as follows: Translated at Current rates; Historical rates Notes receivable, long-term: $240,000; $200,000 Prepaid rent: $85,000; $80,000 Patent: $150,000; $170,000 Total at Current rate: $475,000 Total at Historical rate: $450,000 The subsidiary's functional currency is the currency of the country in which it is located. What total amount should be included in Rowan's December 31 consolidated balance sheet for the above accounts? a. $450,000 b. $455,000 c. $475,000 d. $495,000
c. $475,000 Explanation: The rate to be used to translate all assets and all liabilities from the functional currency to the reporting currency (the U.S. dollar) is the current rate, that is, the exchange rate in effect at the balance sheet date.
The current spot exchange rate is 1 USD is equivalent to 1,525 Turkish lira. Using the direct method from the perspective of a US company, which of the following rates would show a depreciation of the USD? a. 1,430 lira = 1 USD b. 1,665 lira = 1 USD c. 0.0070 USD = 1 lira d. 0.00060 USD = 1 lira
c. 0.0070 USD = 1 lira Explanation: For the direct method of quoting an exchange rate, from the perspective of a U.S. company, the number of U.S. dollars will be expressed in terms of 1 Turkish lira. So the current exchange rate shows that it will take 0.00066 (1/1525) U.S. dollars to convert to 1 lira. An example of the U.S. dollar depreciating is if it now will take 0.00070 U.S. dollars to convert to 1 lira.
When determining the functional currency for an international company that adheres to IFRS, which of the following factors would not be considered when evaluating each foreign subsidiary (currency)? a. The currency of the country whose competitive forces and regulations primarily determine the entity's sales price for products or services offered b. What portion of transactions with the parent makes up the foreign subsidiary's activities c. Whether the local economy of the foreign entity is highly inflationary d. The currency that primarily influences the entity's labor, material, and other costs of providing goods and services
c. Whether the local economy of the foreign entity is highly inflationary Explanation: Although this is a primary factor when determining the functional currency under U.S. GAAP, this is not a primary factor under IFRS for determining a foreign entity's functional currency.
Chang Import/Export has numerous international subsidiaries throughout Asia that rely upon both the US dollar and local currencies to sustain their operations. For the year ended December 31, Chang experienced a remeasurement loss of $40,000 and a translation gain of $35,000. As a result of these conversions, accumulated other comprehensive income would display: a. $0 b. $15,000 loss c. $40,000 loss d. $25,000 gain
d. $25,000 gain Explanation: Conversion adjustments associated with translation of financial statements are displayed in accumulated other comprehensive income. The $25,000 translation gain is included in accumulated other comprehensive income.
On November 2, Year 1, Platt Co. entered into a 90-day futures contract to purchase 50,000 Swiss francs when the contract quote was $0.70. The purchase was for speculation in price movement. The following exchange rates existed during the contract period: November 2, Year 1: 30-day futures $0.62 Spot rate $0.63 December 31, Year 1 30-day futures $0.65 Spot rate $0.64 January 30, Year 2 30-day futures $0.65 Spot rate $0.68 What amount should Platt report as foreign currency exchange loss in its income statement for the year ended December 31, Year 1? a. $2,500 b. $3,000 c. $3,500 d. $4,000
a. $2,500 Explanation: Any gain or loss on futures contracts not designated as a hedge is recognized in current income. The loss as of December 31, Year 1 is: Contract rate: $0.70 30-day futures rate on 12/31/Y1: $0.65 $0.70 - $0.65 = $0.05 $0.05 x 50,000 SF = $2,500 loss The December 31, Year 1 30-day futures rate is used since, as of December 31, Year 1, 30 days remain in the contract period. If the futures contract were purchased at year-end instead of on November 2, Year 1, 5¢ per Swiss franc would have been saved. It would have only cost us 65¢ per Swiss franc instead of our contract rate of 70¢; therefore, 5¢ per Swiss franc was recorded as a loss.
When remeasuring foreign currency financial statements into the functional currency, which of the following items would be remeasured using historical exchange rates? a. Inventories carried at cost b. Marketable equity securities reported at market values c. Bonds payable d. Accrued liabilities
a. Inventories carried at cost Explanation: Rule: Balance sheet accounts are generally included at the current exchange rate, except for: 1. A self contained subsidiary with a 3 year inflation rate of 100% or more (hyperinflationary economy). 2. A foreign entity which does not maintain its accounts in a foreign functional currency. In these circumstances, the remeasurement method is used and the historical rates should be used only for those balance sheet accounts carried at "cost" (most non-monetary items). Otherwise follow the general rule and use the "current" rate.
Textbooks International Inc. (TII), a college textbook publisher based in the US, has one foreign operating subsidiary, Warsaw Publishing Company (Warsaw). Warsaw is a self-contained textbook publishing firm that is highly integrated in the local Polish economy and is not dependent on its parent (currency), TII. Despite its successful operations, the local economy of Warsaw has experienced inflation of 28%, 32%, and 30% over the past three years, respectively. Given the above, what is the current functional currency and translation method used for reporting Warsaw's financial results? a. Reporting currency using the remeasurement method b. Local currency using the translation method c. Reporting currency using the translation method d. Local currency using the remeasurement method
a. Reporting currency using the remeasurement method Explanation: Although Warsaw is independent from its parent's operations and is highly integrated with the local Polish community, the Polish economy has experienced hyperinflation as evidenced by cumulative inflation greater than 100% or 119.65% ((1.28 × 1.32 × 1.30) − 1) over the past three years. As a result, TII reporting (parent) currency is the functional currency and the remeasurement method must be used to remeasure Warsaw's financial results. When the local currency is the functional currency, the translation (current rate) method is used. Given that there is hyperinflation in the local Polish economy, the reporting currency is the functional currency.
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: a. Salaries expense: Yes Sales to external customers: Yes b. Salaries expense: Yes Sales to external customers: No c. Salaries expense: No Sales to external customers: Yes d. Salaries expense: No Sales to external customers: No
a. Salaries expense: Yes Sales to external customers: Yes Explanation: If a foreign subsidiary's local currency is the functional currency and the economy of the foreign entity is not highly inflationary, then the translation (current) method is used to convert the financial statements of the foreign subsidiary from the local/functional currency to the reporting currency. Under the translation (current) method, all income statement items, including salaries expense and sales to external customers, are translated using the weighted-average exchange rate for the current year.
On January 1, Year 2, Stationary Inc., a US-based company, commenced international operations in Mexico. During Year 2, the Mexican subsidiary had sales, operating expenses, and interest expense (in pesos) of 130,640,000, 78,384,000, and 19,596,000, respectively. The income tax rate for the foreign subsidiary was 35%. The Mexican peso/USD exchange rates in effect during Year 2 were as follows: Historical Rate 1/1/Y2: MXN1.00/USD0.077239 Current Rate 12/31/Y2: MXN1.00/USD0.078311 Weighted Average Rate: MXN1.00/USD0.076542 What is the foreign subsidiary's net income in US dollars for Year 2 assuming the translation (current rate) method is used by the parent company? a. $1,611,252 b. $1,624,910 c. $1,639,707 d. $1,662,464
b. $1,624,910 Explanation: When using the translation method to report the foreign subsidiary's financial results, the parent would convert all income statement items using the peso/dollar weighted average exchange rate. Because all items use the same weighted average exchange rate, the subsidiary's pretax income is first calculated in pesos as follows: MXN130,640,000 − MXN78,384,000 − MXN19,596,000 = MXN32,660,000 Applying the 35% tax rate, the foreign subsidiary's net income is: MXN32,660,000 × (1 − 0.35) = MXN21,229,000 The foreign subsidiary's net income is converted to U.S. dollars using the weighted average exchange rate as follows: MXN21,229,000 × $0.076542 = $1,624,910
On October 1 of the current year, a US 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 pound = $1.50 on collection in January of the subsequent year. What amount would the company recognize as a gain (loss) from foreign currency transactions when the receivable is collected? a. $0 b. $100 c. $140 d. ($140)
b. $100 Explanation: The company will report a $100 gain when the receivable is collected. When a foreign currency transaction is not settled at year-end, a transaction gain or loss must be reported on the year-end income statement. The gain or loss is calculated using the change in exchange rates between the transaction date and year-end. On December 31, the company will record a gain of $40 [2,000 pounds x ($1.45/pound year-end exchange rate - $1.43/pound exchange rate) on transaction date]. When the transaction is settled in the subsequent period, a gain or loss must be reported. The gain or loss is calculated using the change in exchange rates between year-end and the collection date. The $100 gain recorded on the collection date is calculated as follows: $100 = 2,000 pounds x ($1.50/pound collection date exchange rate - $1.45 year-end exchange rate)
Park Co.'s wholly owned subsidiary, Schnell Corp., maintains its accounting records in euros. Because all of Schnell's branch offices are in Switzerland, its functional currency is the Swiss franc. Remeasurement of Schnell's Year 4 financial statements resulted in a $7,600 gain, and translation of its financial statements resulted in an $8,100 gain. What amount should Park report as a foreign exchange gain in its income statement for the year ended December 31, Year 4? a. $0 b. $7,600 c. $8,100 d. $15,700
b. $7,600 Explanation: Rule: "Translation adjustments" are not included in determining net income for the period but are disclosed and accumulated as a component of other comprehensive income in consolidated equity until disposed of. However, gains or losses from remeasuring the foreign subsidiary's financial statements from the local currency to the functional currency should be included in "income from continuing operations" of the parent company. Note: Assume that the question had asked the following instead: "What amount should Park report as a foreign exchange gain in its statement of income and comprehensive income (or statement of comprehensive income, by itself)?" In that case, the answer would have been $15,700.
Gordon Ltd., a 100% owned British subsidiary of a U.S. parent company, reports its financial statements 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? a. 1.50 b. 1.55 c. 1.60 d. 1.70
b. 1.55 Explanation: Absent any information to the contrary, the functional currency of the British subsidiary must be the British pound. To convert from the British pound to the U.S. dollar (the reporting currency), the translation (current) method is used and all income statement items are translated using the average exchange rate.
On October 1, Velec Co., a U.S. company, contracted to purchase foreign goods requiring payment in euros one month after their receipt at Velec's factory. Title to the goods passed on December 15. The goods were still in transit on December 31. Exchange rates were one dollar to 22 euros, 20 euros, and 21 euros on October 1, December 15, and December 31, respectively. Velec should account for the exchange rate fluctuation as: a. A loss included in net income before discontinued operations b. A gain included in net income before discontinued operations c. A gain reported net of tax after discontinued operations d. A loss reported net of tax after discontinued operations
b. A gain included in net income before discontinued operations Explanation: The transaction would first be journalized when title transfers to the buyer on December 15. At fiscal year-end, the exchange rate has increased from one dollar to 20 euros on 12/15 to one dollar to 21 euros on 12/31, so a foreign exchange gain would be recognized.
When the remeasurement (temporal) method is used by a multinational company to remeasure a foreign subsidiary's financial statements, which of the following balance sheet items would be stated at the current (year-end) exchange rate? a. Property, plant, and equipment b. Accounts receivable c. Patents d. Paid-in capital
b. Accounts receivable Explanation: Under the remeasurement (temporal) method, all monetary balance sheet items of the foreign subsidiary are remeasured using the current (year-end) exchange rate, and all nonmonetary balance sheet items are remeasured using the historical exchange rate. Of the answer choices listed above, accounts receivable is considered a monetary item and would be shown on the balance sheet at the current year-end exchange rate.
When financial statements of a foreign subsidiary are in the subsidiary's functional currency, which of the following accounts would be translated at the historical exchange rate? a. Fixed assets b. Additional paid-in capital c. Retained earnings d. Translation gain or loss
b. Additional paid-in capital Explanation: Under the translation method, additional paid-in capital and common stock are translated at the historical exchange rate in effect when the account was originally charged. All income statement items are translated at the weighted average exchange rate and assets and liabilities are translated at the year-end exchange rate. Retained earnings is a roll forward balance from the prior balance under the translation method and is not subject to translation.
Which of the following selections best describes the translation method of foreign financial statements? a. A foreign company that uses IFRS recalculates its financial statements under US GAAP b. All income statement accounts are translated using the weighted average exchange rates for the year c. If the financial statements of the foreign subsidiary are in the subsidiary's functional currency, the financial statements are translated to the reporting currency, starting with the balance sheet d. Fixed assets are translated at the exchange rate when the asset was purchased
b. All income statement accounts are translated using the weighted average exchange rates for the year Explanation: All income statement items are translated from the foreign currency with the net income transferred to retained earnings. Asset and liability amounts are translated at the year-end rate. Stock and paid-in capital are translated at the historical rate and the gain or loss is shown in other comprehensive income.
On October 1, Year 1, Mild Co., a US company, purchased machinery from Grund, a German company, with payment due on April 1, Year 2. If Mild's Year 1 operating income included no foreign exchange transaction gain or loss, then the transaction could have: a. Caused a foreign currency transaction gain to be reported as a component of other comprehensive income in stockholders' equity b. Been denominated in US dollars c. Caused a foreign currency gain to be reported as a contra account against machinery d. Caused a foreign currency translation gain to be reported as a component of other comprehensive income in stockholders' equity
b. Been denominated in US dollars Explanation: If the transaction is denominated in U.S. dollars, however, there is no foreign exchange gain or loss. Rule: Foreign exchange transactions gains and losses are generally included in determining net income for the period in which exchange rates change.
A US company purchased inventory on account at a cost of 1,000 foreign currency units (FCU) from a non-US company on November 15, to be paid on December 15. The FCU is valued at $0.85 on November 15 and $0.90 on December 15. The journal entry to record payment on December 15 should include which of the following? a. Debit inventory and credit cash for $850 b. Debit exchange gains and losses and credit accounts payable for $50 c. Debit accounts payable and credit exchange gains and losses for $50 d. Debit accounts payable and credit cash for $850
b. Debit exchange gains and losses and credit accounts payable for $50 Explanation: The initial entry to record the cost of inventory on November 15 is as follows: Dr. Inventory (1,000 FCU x $0.85) 850 Cr. Accounts payable 850 As the exchange rate has increased to $0.90 on December 15, the effect of that change must be recorded: Dr. Foreign exchange gains and losses 50 Cr. Accounts payable 50 When the invoice is paid, the following entry will be recorded: Dr. Accounts payable 900 Cr. Cash (1,000 FCU x $0.90) 900
Which of the following items of a foreign subsidiary would be valued differently depending on whether financial statements were translated using the translation method or the remeasurement method? a. Sales revenue b. Depreciation expense c. Cash - foreign bank account d. Common stock
b. Depreciation expense Explanation: Under the translation method, all income statement items are translated using the weighted average rate. Under the remeasurement method, depreciation is translated at the historical rate.
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: a. Foreign currency: No, Reporting currency: No b. Foreign currency: No, Reporting currency: Yes c. Foreign currency: Yes, Reporting currency: No d. Foreign currency: Yes, Reporting currency: Yes
b. Foreign currency: No, Reporting currency: Yes Explanation: A subsidiary's financial statements are usually maintained in its local currency. If the subsidiary's functional currency is its local currency, the subsidiary's financial statements are simply "translated" to the reporting currency. The resulting adjustment is reported as other comprehensive income. If the subsidiary's functional currency is not the same as its local currency (the functional currency may be the reporting currency or another currency), the subsidiary's financial statements must be "remeasured" into the functional currency. The resulting gain or loss on remeasurement is reported in the consolidated income statement.
A company from the United Kingdom uses British pounds in its normal operations, reports in the European Union in euros, and reports in the United States in US dollars. The company is owned by a private equity firm in Japan. What is the company's functional currency? a. The euro b. The British pound c. The US dollar d. The Japanese yen
b. The British pound Explanation: The functional currency is the currency of the primary economic environment in which the entity operates, usually the local currency or the reporting currency.
Apex Company has a wholly owned subsidiary, Cpex Company. Cpex is highly integrated with Apex and serves primarily as a sales outlet for Apex. Day-to-day operations of Cpex depend on the reporting currency. Which of the following statements is true regarding financial statement currency translation and/or remeasurement? a. The foreign currency is the functional currency and the translation method must be used b. The reporting currency is the functional currency and the remeasurement method must be used c. Financial statements must first be translated to the functional currency, and then must be translated from the functional currency to the reporting currency d. Financial statements must first be remeasured from the local currency to the functional currency, and then must be translated from the functional currency to the reporting currency
b. The reporting currency is the functional currency and the remeasurement method must be used Explanation: The reporting currency is the functional currency because Cpex is highly integrated with its parent, Apex.
A foreign subsidiary of a US parent company should measure its assets, liabilities, and operations using: a. The subsidiary's local currency b. The subsidiary's functional currency c. The US dollar d. The best available spot rate
b. The subsidiary's functional currency Explanation: The functional currency is the currency of the primary economic environment in which the entity operates, usually the local currency or the reporting currency. The foreign subsidiary itself should measure its assets, liabilities, and operations using the currency of its primary economic environment.
If the local currency of a parent US company is the dollar and the local currency of a Japanese subsidiary is the dollar and the local currency of a Japanese subsidiary is the yen, which currency would be considered the functional currency of the subsidiary company? a. The dollar b. The yen c. The currency in which transactions between the two companies are denominated d. Either currency, as long as it is properly disclosed and used consistently throughout the statements
b. The yen Explanation: The functional currency is the currency of the primary economic environment in which the specific entity operates. That would be the local currency for the Japanese company.
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 euros. Shore recorded a foreign currency transaction gain on collection of the receivable and an exchange loss of 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? a. Yen Exchangeable for $1: Increase Euros Exchangeable for $1: Increase b. Yen Exchangeable for $1: Decrease Euros Exchangeable for $1: Decrease c. Yen Exchangeable for $1: Decrease Euros Exchangeable for $1: Increase d. Yen Exchangeable for $1: Increase Euros Exchangeable for $1: Decrease
b. Yen Exchangeable for $1: Decrease Euros Exchangeable for $1: Decrease Explanation: Approach: Set up assumed values for transactions and test for appropriate gain or loss. Receivable: Denominated in yen. Assume transaction is for 1,000 yen. On settlement date, there is a foreign exchange gain on the receipt of 1,000 yen. In order for there to be a gain, the 1,000 yen must be worth more dollars than on the transaction date. Therefore fewer yen must be equal to a dollar (for there to be more dollars), so the number of yen exchangeable into dollars decreased. Payable Denominated in euros. Assume transaction is for 2,000 euros on settlement date, there is a foreign exchange loss on the payment of 2,000 euros. For there to be a loss, it must take more dollars to buy the same euros. Therefore, the number of euros exchangeable into dollars must have decreased.
Which of the following does not accurately describe how the cash flows associated with a derivative instrument should be reported in a company's statement of cash flows? a. Cash flows from a derivative instrument containing other than an insignificant financing element at transaction inception should be classified as a financing activity cash flow b. Cash flows from a derivative instrument with a no hedging designation should be classified as an investing activity cash flow c. Cash flows from a derivative instrument used to hedge the cash flows associated with a long-term security investment should be classified as an operating activity cash flow d. Cash flows from a derivative instrument with a no hedging designation but held for trading purposes should be classified as an operating activity cash flow
c. Cash flows from a derivative instrument used to hedge the cash flows associated with a long-term security investment should be classified as an operating activity cash flow Explanation: This does not accurately reflect the reporting of the derivative instrument being represented. Because the cash flow hedge is being used to hedge the cash flows associated with a long-term security investment that does not have a held-for-trading purpose designation, the cash flows should be classified as an investing activity rather than an operating activity.
On December 15, a US company bought inventory from a European supplier. Payment is required in euros in 30 days. What exchange rate should be used to value the payable for this transaction at year-end? a. Exchange rate at settlement date b. Exchange rate at purchase date c. Exchange rate at year-end d. Weighted average exchange rate for the year
c. Exchange rate at year-end Explanation: Even though the transaction will not settle until mid-January, with a year-end of December 31, the company must value the payable using the exchange rate as of year-end. Assuming this exchange rate has changed from the rate that was in place on December 15, the company will either book a gain or a loss.
A domestic-based company uses the translation method to report its foreign subsidiaries. Which of the following would not be done when translating each foreign subsidiary's financial statements to USD under the translation (current rate) method? a. Roll forward the retained earnings account by transferring net income to this account b. Convert all income statement accounts at the weighted average exchange rate during the year c. Plug translation gains to other comprehensive income with losses reflected as a retained earnings adjustment d. Use the historical rate to translate the common stock and additional paid-in capital accounts with all other asset and liability accounts translated using the current year-end rate
c. Plug translation gains to other comprehensive income with losses reflected as a retained earnings adjustment Explanation: This is not the correct treatment when using the translation method for reporting foreign subsidiaries. Under the translation method, the translation gain or loss adjustment is plugged to other comprehensive income.
Ball Corp. had the following foreign exchange currency transactions during Year 1: Merchandise was purchased from a foreign supplier on January 20, Year 1, for the US dollar equivalent of $90,000. The invoice was paid on March 21, Year 1, at the US dollar equivalent of $96,000. On July 1, Year 1, Ball borrowed the US dollar equivalent of $500,000 evidenced by a note that was payable in the lender's local currency on July 1, Year 3. On December 31, Year 1, the US dollar equivalents of the principal amount and accrued interest were $520,000 and $26,000, respectively. Interest on the note is 10% per annum. In Ball's Year 1 income statement, what amount should be included as foreign exchange loss? a. $0 b. $6,000 c. $21,000 d. $27,000
d. $27,000 Explanation: Merchandise purchased from a foreign supplier on 1/20/Year 1 for $90,000 was paid on 3/20/Year 1 with $96,000 ($90k - $96k) $6,000 loss Loan made on 7/1/Year 1 for $500,000 payable on 7/1/Year 3: Principal USD equivalent 7/1/Y1 $500,000 Principal USD equivalent 12/31/Y1 $520,000 $500k - $520k = $20,000 loss Accrued interest for six months: USD equivalent 7/1/Y1 ($500,000 x 10% x 1/2 year) $25,000 USD equivalent 12/31/Y1 $26,000 $25k - $26k = $1,000 loss Total foreign loss: $6k + $20k + $1k = $27,000 loss
On September 1, Year 1, Cano & Co., a US corporation, sold merchandise to a foreign firm for 250,000 pesos. Terms of the sale require payment in pesos on February 1, Year 2. On September 1, Year 1, the spot exchange rate was $0.20 per peso. At December 31, Year 1, Cano's year end, the spot rate was $0.19, but the rate increased to $0.22 by February 1, Year 2, when payment was received. How much should Cano report as foreign exchange gain or loss in its Year 2 income statement? a. $0 b. $2,500 loss c. $5,000 gain d. $7,500 gain
d. $7,500 gain Explanation: Foreign exchange gains and losses are recorded at year end on uncompleted contracts. The gain for Year 2 is the exchange rate change from 12/31/Year 1 to 2/1/Year 2: ($.22 - $.19) or $.03 x 250,000 pesos = $7,500
Under US GAAP, there are certain required disclosures when derivatives are used and interim or annual financial statements are presented by a company. Which of the following would not be a required disclosure under US GAAP? a. The volume of the company's derivative activity b. Location and fair values of derivative instruments reported on the balance sheet c. A description of the company's objectives for using derivatives and the strategies to achieve those objective d. A description of the impact on financial leverage for each derivative instrument currently held
d. A description of the impact on financial leverage for each derivative instrument currently held Explanation: Although derivative instruments involve the extensive use of financial leverage, reporting on the impact for each derivative instrument held by the company is not a required derivative disclosure under U.S. GAAP.
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? a. A gain of $40,000 as a separate component of stockholders' equity b. A gain of $40,000 in the income statement c. A gain of $25,000 as a separate component of stockholders' equity d. A gain of $25,000 in the income statement
d. A gain of $25,000 in the income statement Explanation: On November 20th, the company enter into an agreement to purchase merchandise for an amount that it expected to settle for $625,000 (500,000 pounds x $1.25/pound). On December 31st, the spot rate had fallen to $1.20 per pound, at which rate the purchase could be settled for $600,000 (500,000 pounds x $1.20/pound). This represents a $25,000 foreign currency transaction gain that is recognized on the year-end income statement.
Which of the following does not accurately represent the mechanics of either the remeasurement (temporal) method or translation (current rate) method when translating a foreign subsidiary's financial statements? a. Under the translation method, the income statement accounts are translated first followed by the balance sheet accounts b. A currency gain/loss account is plugged into the income statement under the remeasurement method to ensure that the retained earnings account is in balance on the balance sheet c. Under the remeasurement method, the exchange rates used for the balance sheet and income statement are primarily dependent on whether the account is a monetary or nonmonetary sheet d. All balance sheet account items are translated using the current year-end rate under the translation method
d. All balance sheet account items are translated using the current year-end rate under the translation method Explanation: This is not an accurate statement regarding the mechanics of the translation method. Although the asset and liability account items are translated on the balance sheet using the current year-end exchange rate under the translation method, both common stock and additional paid-in capital are translated using the historical exchange rate (and the retained earnings account is a roll forward calculation).
When translating foreign currency financial statements into the reporting currency, which of the following items would not be translated using current (year-end) rates? a. Accounts receivable b. Fixed assets c. Notes payable d. Common stock
d. Common stock Explanation: When the translation method is used, all assets and liabilities are translated to the reporting currency using the current (year-end) exchange rate, while common stock and additional paid-in capital are translated using historical exchange rates.
Under US GAAP, using the remeasurement method for foreign financial statements, where would the gain or loss be reported on the financial statements of the parent company? a. Other comprehensive income b. No gain or loss would result c. Income from continuing operations, net of tax d. Income from continuing operations, at the gross amount
d. Income from continuing operations, at the gross amount Explanation: If financial statements are remeasured to the functional currency of the parent, the gain or loss on remeasurement is shown as part of income from continuing operations. Because remeasurement generally would be the result of a foreign currency being highly inflationary, the difference would be considered part of normal business operations.
On November 1 of the current year, a US company entered into a futures contract to hedge the value of its inventory. The inventory was reported on the balance sheet at its cost of $325,000 on November 1. On December 31, the market value of the inventory has decreased to $315,000. The entity had a gain of $9,700 on the futures contract at December 31. What is the proper accounting for this hedging transaction on the December 31 year-end financial statements, assuming that the hedge is considered to be highly effective? a. Other comprehensive income will decrease by $9,700 b. Other comprehensive income will decrease by $300 c. Net income will increase by $9,700 d. Net income will decrease by $300
d. Net income will decrease by $300 Explanation: This hedge is classified as a fair value hedge because it is being used to hedge the value of the inventory. Therefore, the gain on the fair value hedge must be recognized in earnings, along with the loss on the inventory, for a net decrease in net income of $300: Gain on derivative = $9,700 Loss on inventory = $315,000 FV − $325,000 BV = $(10,000) Net loss on fair value hedge = $(10,000) loss + $9,700 gain = $(300) loss
Under US GAAP, in preparing consolidated financial statements of a US parent company with a foreign subsidiary, the foreign subsidiary's functional currency is the currency: a. In which the subsidiary maintains its accounting records b. Of the country in which the subsidiary is located c. Of the country in which the parent is located d. Of the environment in which the subsidiary primarily generates and expends cash
d. Of the environment in which the subsidiary primarily generates and expends cash Explanation: Rule: The functional currency of a company may be: 1. A foreign entity's local currency, which is typically the one in which the entity keeps its books; 2. The currency in which the financial statements will be presented, which is the currency of the parent company; or 3. A foreign currency other than the one in which the foreign entity maintains its books.
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. A deferred foreign exchange gain b. A component of other comprehensive income c. An unusual gain, net of income taxes d. Part of continuing operations
d. Part of continuing operations Rule: If an entity's books are not maintained in its functional currency, remeasurement into the functional currency is required. Any gains or losses are included in determining net income and are classified as part of continuing operations.
Hobby International is a Canadian-based company with a foreign subsidiary in Argentina. Although the foreign subsidiary's economy has experienced hyperinflation over the past several years, the entity remains a vital party of the parent's operations. Assuming that Hobby International and its subsidiary adhere to IFRS, what is the correct methodology of accounting for the foreign entity's financial statements at the current year-end? a. Restate the foreign subsidiary's accounts for the impact of inflation and then use the remeasurement method to remeasure its income statement and balance sheet b. Use the remeasurement method for the foreign subsidiary's financial statements c. Use the translation method to translate the foreign subsidiary's financial statements to the parent's reporting currency d. Restate the foreign subsidiary's financial statements for the effect of inflation and then convert income statement and balance sheet to the reporting currency using the current year-end rate
d. Restate the foreign subsidiary's financial statements for the effect of inflation and then convert income statement and balance sheet to the reporting currency using the current year-end rate Explanation: This represents the correct methodology for adhering to IFRS when a foreign entity has experienced high or hyperinflation. The primary difference from U.S. GAAP is that under IFRS the foreign subsidiary's financial statement accounts are first restated for the effects of inflation and then converted to the reporting currency using the current year-end rates, while under U.S. GAAP the remeasurement method is automatically applied in a hyperinflation scenario.
