Advanced accounting chapter 9 answers(46页).doc

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1、-ADVANCED ACCOUNTING CHAPTER 9 ANSWERS-第 47 页CHAPTER 9FOREIGN CURRENCY TRANSACTIONS AND HEDGING FOREIGN EXCHANGE RISKChapter Outline I.In todays global economy, a great many companies deal in currencies other than their reporting currencies.A.Merchandise may be imported or exported with prices state

2、d 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 questions in restating foreign currency balances.1.What is the appropriate exchange rate for restating f

3、oreign currency balances?2.How are changes in the exchange rate accounted for?D.Companies often engage in foreign currency hedging activities to avoid the adverse impact of exchange rate changes.E. Accountants must determine how to properly account for these hedging activities.II.Foreign exchange ra

4、tes are determined in the foreign exchange market under a variety of different currency arrangements.A.Exchange rates can be expressed in terms of the number of U.S. dollars to purchase one foreign currency unit (direct quotes) or the number of foreign currency units that can be obtained with one U.

5、S. dollar (indirect quotes).B.Foreign currency trades can be executed on a spot or forward basis.1.The spot rate is the price at which a foreign currency can be purchased or sold today.2.The forward rate is the price today at which foreign currency can be purchased or sold sometime in the future. 3.

6、Forward exchange contracts provide companies with the ability to “lock in” a price today for purchasing or selling currency at a specific future date.C.Foreign currency options provide the right but not the obligation to buy or sell foreign currency in the future, and therefore are more flexible tha

7、n forward contracts.III.Statement 52 of the Financial Accounting Standards Board, issued in December 1981, prescribes accounting rules for foreign currency transactions.Note: SFAS 52 has been incorporated into the FASB Accounting Standards Codification Section 830 Foreign Currency Matters (FASB ASC

8、830).A.Export sales denominated in foreign currency are reported in U.S. dollars at the spot exchange rate at the date of the transaction. Subsequent changes in the exchange rate until collection of the receivable are reflected through a restatement of the foreign currency account receivable with an

9、 offsetting foreign exchange gain or loss reported in income. This is known as a two-transaction perspective, accrual approach.B.The two-transaction perspective, accrual approach also is used in accounting for foreign currency payables. Receivables and payables denominated in foreign currency create

10、 an exposure to foreign exchange risk; this is the risk that changes in the exchange rate over time will result in a foreign exchange loss. IV. FASB Statement 133 (as amended by FASB Statement 138) governs the accounting for derivative financial instruments and hedging activities including the use o

11、f foreign currency forward contracts and foreign currency options.Note: SFAS 133 and 138 have been incorporated into the FASB Accounting Standards Codification Section 815 Derivatives and Hedging (FASB ASC 815).A. The fundamental requirement is that all derivatives must be carried on the balance she

12、et at their fair value. Derivatives are reported on the balance sheet as assets when they have a positive fair value and as liabilities when they have a negative fair value.B. U.S. GAAP provides guidance for hedges of the following sources of foreign exchange risk:1. foreign currency denominated ass

13、ets and liabilities.2. foreign currency firm commitments.3. forecasted foreign currency transactions.4. net investments in foreign operations (covered in Chapter 10).C.Companies prefer to account for hedges in such a way that the gain or loss from the hedge is recognized in net income in the same pe

14、riod as the loss or gain on the risk being hedged. This approach is known as hedge accounting. Hedge accounting for foreign currency derivatives may be applied only if three conditions are satisfied:1. the derivative is used to hedge either a fair value exposure or cash flow exposure to foreign exch

15、ange risk,2. the derivative is highly effective in offsetting changes in the fair value or cash flows related to the hedged item, and3. the derivative is properly documented as a hedge.D.Hedge accounting is allowed for hedges of two different types of exposure: cash flow exposure and fair value expo

16、sure. Hedges of (1) foreign currency denominated assets and liabilities, (2) foreign currency firm commitments, and (3) forecasted foreign currency transactions can be designated as cash flow hedges. Hedges of (1) and (2) also can be designated as fair value hedges. Accounting procedures differ for

17、the two types of hedges. E.For cash flow hedges of foreign currency denominated assets and liabilities, at each balance sheet date: 1. The hedged asset or liability is adjusted to fair value based on changes in the spot exchange rate, and a foreign exchange gain or loss is recognized in net income.2

18、. The derivative hedging instrument is adjusted to fair value (resulting in an asset or liability reported on the balance sheet), with the counterpart recognized as a change in Accumulated Other Comprehensive Income (AOCI).3. An amount equal to the foreign exchange gain or loss on the hedged asset o

19、r liability is then transferred from AOCI to net income; the net effect is to offset any gain or loss on the hedged asset or liability.4. An additional amount is removed from AOCI and recognized in net income to reflect (a) the current periods amortization of the original discount or premium on the

20、forward contract (if a forward contract is the hedging instrument) or (b) the change in the time value of the option (if an option is the hedging instrument). F.For fair value hedges of foreign currency denominated assets and liabilities, at each balance sheet date:1. The hedged asset or liability i

21、s adjusted to fair value based on changes in the spot exchange rate, and a foreign exchange gain or loss is recognized in net income.2. The derivative hedging instrument is adjusted to fair value (resulting in an asset or liability reported on the balance sheet), with the counterpart recognized as a

22、 gain or loss in net income.G.Under fair value hedge accounting for hedges of foreign currency firm commitments:1. the gain or loss on the hedging instrument is recognized currently in net income, and2. the change in fair value of the firm commitment is also recognized currently in net income. This

23、accounting treatment requires (1) measuring the fair value of the firm commitment, (2) recognizing the change in fair value in net income, and (3) reporting the firm commitment on the balance sheet as an asset or liability. A decision must be made whether to measure the fair value of the firm commit

24、ment through reference to (a) changes in the spot exchange rate or (b) changes in the forward rate. H. Cash flow hedge accounting is allowed for hedges of forecasted foreign currency transactions. For hedge accounting to apply, the forecasted transaction must be probable (likely to occur). The accou

25、nting for a hedge of a forecasted transaction differs from the accounting for a hedge of a foreign currency firm commitment in two ways:1. Unlike the accounting for a firm commitment, there is no recognition of the forecasted transaction or gains and losses on the forecasted transaction.2. The hedgi

26、ng instrument (forward contract or option) is reported at fair value, but because there is no gain or loss on the forecasted transaction to offset against, changes in the fair value of the hedging instrument are not reported as gains and losses in net income. Instead they are reported in other compr

27、ehensive income. On the projected date of the forecasted transaction, the cumulative change in the fair value of the hedging instrument is transferred from other comprehensive income (balance sheet) to net income (income statement).V.IFRS is very similar to U.S. GAAP with respect to the accounting f

28、or foreign currency transactions and hedging of foreign exchange risk. A.IAS 21 requires the use of a two-transaction perspective in accounting for foreign currency transactions with unrealized foreign exchange gains and losses accrued in net income in the period of exchange rate change.B.IAS 39 all

29、ows hedge accounting for foreign currency hedges of recognized assets and liabilities, firm commitments, and forecasted transactions when documentation requirements and effectiveness tests are met. Hedges are designated as cash flow or fair value hedges. C.One difference between IFRS and U.S. GAAP r

30、elates to the type of financial instrument that can be designated as a foreign currency cash flow hedge. Under U.S. GAAP, only derivative financial instruments can be used as a cash flow hedge, whereas IFRS also allows non-derivative financial instruments, such as foreign currency loans, to be desig

31、nated as hedging instruments in a foreign currency cash flow hedge. Learning ObjectivesHaving completed Chapter 9, “Foreign Currency Transactions and Hedging Foreign Exchange Risk,” students should be able to fulfill each of the following learning objectives: 1.Understand concepts related to foreign

32、 currency, exchange rates, and foreign exchange risk. 2.Account for foreign currency transactions using the two-transaction perspective, accrual approach. 3.Understand how foreign currency forward contracts and foreign currency options can be used to hedge foreign exchange risk. 4.Account for forwar

33、d contracts and options used as hedges of foreign currency denominated assets and liabilities. 5. Account for forward contracts and options used as hedges of foreign currency firm commitments. 6.Account for forward contracts and options used as hedges of forecasted foreign currency transactions. 7.P

34、repare journal entries to account for foreign currency borrowings. Answer to Discussion QuestionDo we have a gain or what?This case demonstrates the differing kinds of information provided through application of current accounting rules for foreign currency transactions and derivative financial inst

35、ruments. The Ahnuld Corporation could have received $200,000 from its export sale to Tcheckia if it had required immediate payment. Instead, Ahnuld allows its customer six months to pay. Given the future exchange rate of $1.70, Ahnuld would have received only $170,000 if it had not entered into the

36、forward contract. This would have resulted in a decrease in cash inflow of $30,000. In accordance with current accounting standards, the decrease in the value of the tcheck receivable is recognized as a foreign exchange loss of $30,000. This loss represents the cost of extending credit to the foreig

37、n customer if the tcheck receivable is left unhedged. However, rather than leaving the tcheck receivable unhedged, Ahnuld sells tchecks forward at a price of $180,000. Because the future spot rate turns out to be only $1.70, the forward contract provides a benefit, increasing the amount of cash rece

38、ived from the export sale by $10,000. In accordance with current accounting standards, the change in the fair value of the forward contract (from zero initially to $10,000 at maturity) is recognized as a gain on the forward contract of $10,000. This gain reflects the cash flow benefit from having en

39、tered into the forward contract, and is the appropriate basis for evaluating the performance of the foreign exchange risk manager. (Students should be reminded that the forward contract will not always improve cash inflow. For example, if the future spot rate were $1.85, the forward contract would r

40、esult in $5,000 less cash inflow than if the transaction were left unhedged.) The net impact on income resulting from the fluctuation in the value of the tcheck is a loss of $20,000. Clearly, Ahnuld forgoes $20,000 in cash inflow by allowing the customer time to pay for the purchase, and the net los

41、s reported in income correctly measures this. The $20,000 loss is useful to management in assessing whether the sale to Tcheckia generated an adequate profit margin, but it is not useful in assessing the performance of the foreign exchange risk manager. The net loss must be decomposed into its compo

42、nent parts to fairly evaluate the risk managers performance. Gains and losses on forward contracts designated as fair value hedges of foreign currency assets and liabilities are relevant measures for evaluating the performance of foreign exchange risk managers. (The same is not true for cash flow he

43、dges. For this type of hedge, performance should be evaluated by considering the net gain or loss on the forward contract plus or minus the forward contract premium or discount.) Answers to Questions1.Under the two-transaction perspective, an export sale (import purchase) and the subsequent collecti

44、on (payment) of cash are treated as two separate transactions to be accounted for separately. The idea is that management has made two decisions: (1) to make the export sale (import purchase), and (2) to extend credit in foreign currency to the foreign customer (obtain credit from the foreign suppli

45、er). The income effect from each of these decisions should be reported separately.2.Foreign currency receivables resulting from export sales are revalued at the end of accounting periods using the current spot rate. An increase in the value of a receivable will be offset by reporting a foreign excha

46、nge gain in net income, and a decrease will be offset by a foreign exchange loss. Foreign exchange gains and losses are accrued even though they have not yet been realized.3.Foreign exchange gains and losses are created by two factors: having foreign currency exposures (foreign currency receivables

47、and payables) and changes in exchange rates. Appreciation of the foreign currency will generate foreign exchange gains on receivables and foreign exchange losses on payables. Depreciation of the foreign currency will generate foreign exchange losses on receivables and foreign exchange gains on payab

48、les.4.Hedging is the process of eliminating exposure to foreign exchange risk so as to avoid potential losses from fluctuations in exchange rates. In addition to avoiding possible losses, companies hedge foreign currency transactions and commitments to introduce an element of certainty into the future cash flows resulting from foreign currency activities. Hedging involves establishing a price today at which foreign currency can be sold or purchased at a future date. 5.A party to a foreign currency forward contract is obligated to deliver on