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16CHAPTER 16

TRANSLATING FOREIGN CURRENCY TRANSACTIONS

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16FOCUS OF CHAPTER 16

Currency Exchange Rates Causes of Exchange Rate

Fluctuations Translating Foreign Currency

Transactions (importing and exporting) into U.S. Dollars

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16 Currency Exchange Rates:Terminology

Conversion: Actually going to the bank and physically exchanging currencies.

for

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16 Currency Exchange Rates:Terminology

Translation: The process of applying an exchange rate to a foreign currency amount so that an amount can be expressed in dollars.

100,000 x $1.25 = $125,000

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16 Currency Exchange Rates:Terminology

Expressing Directly:

100,000 x $1.25 = $125,000

Expressing Indirectly:

100,000 ÷ .80 = $125,000

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16 Currency Exchange Rates:Terminology

It is CUSTOM to always express certain

currencies directly (British pound):

It is CUSTOM to always express certain

currencies indirectly (Japanese yen):

1

1$ = 110

= $1.60

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16 Currency Exchange Rates:Terminology

FOREIGN CURRENCY STRENGTHENS: Direct exchange rate goes UP.

After: 1 = $1.64 Before: 1 = $1.60

Indirect exchange rate goes DOWN.

Before: $1 = .625 After: $1 = .610

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16 Currency Exchange Rates:Terminology

Foreign currency strengthens: It becomes more expensive to buy.

Imports cost more.Exports cost foreign customers less.

Foreign currency weakens : It becomes less expensive to buy.

Imports cost less.Exports cost foreign customers more.

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16 Currency Exchange Rates:Why Do They Change?

Inflationary Factors: Foreign inflation makes the

DIRECT exchange rate decrease.

Domestic inflation makes the

DIRECT exchange rate increase.Noninflationary Factors:

Anything and everything else.

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16 The Foreign Exchange Market:

The Biggest Market of All

An OTC market--not an organized exchange such as the NYSE.

Open 24 hours a day. $1.5 trillion per day. The market-makers: Several hundred

banks located throughout the world.

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16 Translating Importing & Exporting Transactions: Terminology

Denominated: The currency in which

an FX transaction is to be settled.

Measured: The currency in which an

FX transaction is recorded in the books and records.

British pounds

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16 Translating Importing & Exporting Transactions: The Relevant Dates

Order (or Commitment) Date: The date the purchase or sales order is issued.

Transaction Date: The date that title passes and the parties record the sale and purchase.

Intervening F/R (or B/S) Date: Dates between the transaction date and the settlement date.

Settlement Date: The date that the debtor

pays the creditor.bank wire transfer

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16 Translating Importing & Exporting Transactions: FX Gains & FX Losses

The One-Transaction View (non-GAAP): Treat as an adjustment to either:

Cost of item acquired. Sales price of item sold.

The Two-Transaction View

(GAAP): Recognize currently in earnings.

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16 Recognizing Currently FX Gains & FX Losses at Intervening F/R Dates

Does it matter if FX gains & losses at intervening balance sheet dates are

unrealized?

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16 Recognizing Currently FX Gains & FX Losses At Intervening F/R Dates

NO! Because an economic gain or loss has occurred.

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16 Dear Ann: I Just Don’t Know!

Dear Ann: My Intel stock has gone up invalue $400,000. My accountant says the gain is unrealized. Should I feel good or not? Perplexed Peter Cruising in TahitiDear Peter: Feel good. If you have any doubts about feeling good, sell the stock and buy it back the same day. Then the gain will be realized--but you will still be “IN THE SAME BOAT.” Ann Anders

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16Review Question #1

On 11/9/04, Selco recorded a sale denominated in 100,000 euros. The customer paid on 1/5/05. Direct exchange rates were: 11/9/04--$.90; 12/31/04--$.95; and 1/5/05--$.92. What does Selco report in earnings in 2004? A. Sales of $90,000 and FX Gain of $5,000 .B. Sales of $90,000 and FX Loss of $5,000. C. Sales of $90,000 and no FX gain or loss.D. Sales of $95,000 and no FX gain or loss. E. Sales of $85,000 and no FX gain or loss.

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16Review Question #1

On 11/9/04, Selco recorded a sale denominated in 100,000 euros. The customer paid on 1/5/05. Direct exchange rates were: 11/9/04--$.90; 12/31/04--$.95; and 1/5/05--$.92. What does Selco report in earnings in 2004? A. Sales of $90,000 and FX Gain of $5,000 .B. Sales of $90,000 and FX Loss of $5,000. C. Sales of $90,000 and no FX gain or loss.D. Sales of $85,000 and no FX gain or loss. E. Sales of $95,000 and no FX gain or loss.

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16Review Question #2

On 12/28/04, Purco recorded an inventory purchase denominated in 100,000 euros. Purco paid the vendor on 1/12/05 Direct exchange rates were: 12/21/04--$1.10; 12/31/04--$1.11; and 1/12/05--$1.15. What does Purco report at 12/31/04? A. Inventory of $110,000 and FX Gain of $1,000.B. Inventory of $110,000 and FX Loss of $1,000. C. Inventory of $110,000 and no FX gain/loss.D. Inventory of $109,000 and no FX gain/loss.E. Inventory of $111,000 and no FX gain/loss.

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16Review Question #2--With Answer

On 12/28/04, Purco recorded an inventory purchase denominated in 100,000 euros. Purco paid the vendor on 1/12/05 Direct exchange rates were: 12/21/04--$1.10; 12/31/04--$1.11; and 1/12/05--$1.15. What does Purco report at 12/31/04? A. Inventory of $110,000 and FX Gain of $1,000.B. Inventory of $110,000 and FX Loss of $1,000. C. Inventory of $110,000 and no FX gain/loss.D. Inventory of $109,000 and no FX gain/loss.E. Inventory of $111,000 and no FX gain/loss.

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16End of Chapter 16

Time to Clear Things Up--Any Questions?