1. I. Introduction A.Overview Transactions can occur in a variety of ways as follows: US Transaction$$ (US US) Foreign Transaction$$ (US Foreign) Foreign Operation$$ US Foreign) of U.S. Company Foreign FinancialFC (Foreign Foreign) Statement

2. I. Introduction (cont.) B. Accounting for transactions denominated in a foreign currency C. Accounting foreign operations D. Overview of International Accounting Standards Committee Pronouncements E. Overview of Accounting Standards in Foreign Countries F. The Future of International Accounting Standards

3. II. Accounting for Transactions Denominated in a Foreign Currency A.Exposed Foreign Asset or Liability The collection of a receivable or payment of a liability is a separate event from the related sale or purchase. At the transaction date, all elements of the transaction are translated into dollars and recorded using the current exchange rate. At subsequent balance sheet dates, and at settlement date, any unsettled receivables or payables are adjusted to reflect the current rate. The resulting gain or loss is an element of current income.

4. EXAMPLE 1 On October 15, 20X1, U.S. Company purchases 10,000 wrenches from a Foreign Company at a price of 8 FCs each. Payments is denominated in FCs and is to be made on March 15, 20X2. Exchange rates are as follows: October 15, 20X1$1 = 5 FCS1 FC = $.20 December 31, 20X1$1 = 3 FCS1 FC = $.333 March 15, 20X2$1 = 4 FCS1 FC = $.25

5. EXAMPLE 1 SOLUTION - October 15, 20X2 Inventory8 FC X 10,000 X $.20 = $16,000 Accounts Payable $16,000 SOLUTION - December 31, 20X2 Accounts Payable8 FC X 10,000 X $.333 = $26,667 Exchange Loss$26,667 - $16,000 = $10,667 SOLUTION - March 15, 20X2 Amount Paid8 FC X 10,000 X $.25 = $20,000 Exchange Gain$26,667 - $20,000 = $ 6,667

6. II. Accounting for Transactions Denominated in a Foreign Currency (cont.) B.Hedged Foreign Asset or Liability When an existing net asset position (where receivables denominated in a foreign currency exceed the payables) or net liability position (where payables exceed receivables) is hedged, offsetting receivables and payables are created. The resulting gains and losses that are incurred cancel out.

7. EXAMPLE 2 U.S. Company buys inventory with a cost of 2,500 FCs from Foreign Company on December 1, 20X2 payable on April 1, 20X3. Also on December 1, 20X2 U.S. Company bought a forward exchange contract to buy 2,500 FCs at $2.02. Spot exchange rates are as follows: December 1, 20X21 FC = $2.00$1 =.50 FC December 31, 20X21 FC = $2.04$1 =.49 FC April 1, 20X31 FC = $2.10$1 =.486 FC

8. EXAMPLE 2 SOLUTION - December 1, 20X2 Inventory2,500 FC X $2.00= $5,000 Accounts Payable $5,000 FC Receivable2,500 FC X $2.00= $5,000 Deferred Premium2,500 FC X.02= $ 50 Due to Exchange Broker $5,050 SOLUTION - December 31, 20X2 Exchange Loss 2,500 X (2.04 - 2.00) = $ 100 Accounts Payable2,500 FC X $2.04 = $5,100 Exchange Gain2,500 X (2.04 - 2.00) = $ 100 Accounts Receivable 2,500 FC X $2.04 = $5,100 Forward Contract Expense $50 X 1/4 = $ 12.50

9. EXAMPLE 2 SOLUTION - April 1, 20X2 Exchange Loss 2,500 X (2.10 - 2.04) = $ 150 Amount Paid2,500 FC X $2.10 = $5,250 Exchange Gain2,500 X (2.10 - 2.04) = $ 150 Amount Received2,500 FC X $2.10 = $5,250 Forward Contract Expense $50 X 3/4 = $ 37.50

10. II. Accounting for Transactions Denominated in a Foreign Currency (cont.) C.Exposed Foreign Currency Commitment There is no transaction or accounting event until the product is delivered. When the product is delivered, the spot rate in effect at that date is used as the recorded cost of the asset. D.Hedged commitment Since a foreign currency commitment is not recorded until the product is delivered, the gain or loss on the forward exchange contract is deferred and closed to the cost of the product purchased.

11. EXAMPLE - 3 On October 10, 20X3, U.S. Company agrees to buy equipment from Foreign Company for 160,000 FCs. The equipment is scheduled for delivery on February 15, 20X4 and payment is due on that date. On October 10, 20X3, U.S. Company enters into a forward exchange contract to purchase 160,000 FCs at $1.02 for delivery on February 15, 20X4. Spot exchange rates are as follows: October 10, 20X31 FC = $1.00$1 = 1.00 FC December 31, 20X31 FC = $1.06$1 =.94 FC February 15, 20X41 FC = $1.10$1 =.91 FC

12. EXAMPLE - 3 SOLUTION - October 10, 20X3 FC Receivable160,000 FC X $1.00 = $160,000 Deferred Premium 160,000 FC X.02 = $ 3,200 Due to Exchange Broker $163,200 SOLUTION - December 31, 20X2 Def Exchange Gain 160,000 X (1.06 - 1.00) =$ 9,600 FC Receivable 160,000 FC X $1.06 =$169,600 Deferred Premium 160,000 FC X.02= $ 3,200 Due to Exchange Broker$163,200

13. EXAMPLE - 3 SOLUTION - February 15, 20X3 Def Exchange Gain 160,000 X (1.10 - 1.06) =$ 6,400 FC Receivable 160,000 FC X $1.10=$176,000 FC Received =$176,000 FC Paid 160,000FC X $1.10=$176,000 Equipment 160,000 + 3,200=$163,200

14. III.Accounting for Foreign Operations A.Financial Statements of Foreign Operation must conform to U.S. Generally Accepted Accounting Principles 1.Equity method investments 2.Consolidated financial statements

15. III.Accounting for Foreign Operations (cont.) B.Determining the "Functional Currency" of the Foreign Operation The functional currency of an investee company is the currency in which it primarily generates and expends cash. If an entity's operations are self-contained and integrated within a particular country, the functional currency will be the currency of that country. If the entity is an integral component of the parent company, the functional currency would be that of the parent. If the foreign functional currency's cumulative three-year exchange rate is 100% or more, the currency is considered too unstable and its functional currency would be that of the parent.

16. III.Accounting for Foreign Operations (cont.) C.Translation versus Remeasurement The approach to converting financial statement amounts denominated in foreign currencies depends upon the defined functional currency.

17. III.Accounting for Foreign Operations (cont.) 1.Translation If the functional currency is the local currency, the financial statement amounts are "translated." Translation produces a balance sheet that is the foreign balance sheet amounts converted to the parent's currency using the spot rate in effect at the balance sheet date. It produces an income statement that is the foreign income statement amounts converted to the parent's currency using the spot rate in effect at the transaction date. This is consistent with the idea that the foreign operation is a separate operation operating in the foreign country.

18. 1.Translation Assets and LiabilitiesCurrent Rate Revenues and ExpensesAverage Current Rate Paid-in-CapitalHistorical Rate Gains and Losses - Separate Section of Owners' Equity

19. III.Accounting for Foreign Operations (cont.) 2.Remeasurement If the functional currency is not the local currency, the financial statement amounts are "remeasured." Remeasurement produces results similar to the translation of foreign transactions discussed previously. This is consistent with the idea that the foreign operation is merely an arm of the parent company conducting parent company transactions in the foreign country.

20. 2.Remeasurement Monetary Assets and LiabilitiesCurrent Rate Non-Monetary Assets and LiabilitiesHistorical Rate Most Revenues and ExpensesAverage Current Rate Cost of Goods Sold and DepreciationHistorical Rate Paid-in-CapitalHistorical Rate Gains and LossesIncome Statement