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CHAPTER 16

CHAPTER 16. TRANSLATING FOREIGN CURRENCY TRANSACTIONS. FOCUS OF CHAPTER 16. Currency Exchange Rates Causes of Exchange Rate Fluctuations Translating Foreign Currency Transactions (importing and exporting) into U.S. Dollars. Currency Exchange Rates: Terminology.

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CHAPTER 16

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  1. CHAPTER 16 TRANSLATING FOREIGN CURRENCY TRANSACTIONS

  2. FOCUS OF CHAPTER 16 • Currency Exchange Rates • Causes of Exchange Rate Fluctuations • Translating Foreign Currency Transactions (importing and exporting) into U.S. Dollars

  3. Currency Exchange Rates:Terminology • Conversion: Actually going to the bank and physically exchanging currencies. for

  4. 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

  5. Currency Exchange Rates:Terminology • Expressing Directly: 100,000 x $1.25 = $125,000 • Expressing Indirectly:100,000 ÷ .80 = $125,000

  6. 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 = $1.60 1$ = 110

  7. 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

  8. 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.

  9. Currency Exchange Rates:Why Do They Change? • Inflationary Factors: • Foreigninflation makes the DIRECT exchange rate decrease. • Domestic inflation makes the DIRECT exchange rate increase. • Noninflationary Factors: • Anything and everything else.

  10. The Foreign Exchange Market: The Biggest Market of All • An OTC market--notan 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.

  11. 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 recordedin the books and records. British pounds

  12. 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

  13. 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.

  14. 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?

  15. Recognizing Currently FX Gains & FX Losses At Intervening F/R Dates • NO! Because an economic gain or loss has occurred.

  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 Tahiti Dear Peter: Feel good. If you have any doubts about feeling good, sell the stock and buy it back the sameday. Then the gain will be realized--but you will still be “IN THE SAME BOAT.” Ann Anders

  17. Review 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.

  18. Review 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.

  19. Review 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.

  20. Review 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.

  21. End of Chapter 16 • Time to Clear Things Up--Any Questions?

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