Chapter 9 Foreign Currency Transactions and an Introduction to Hedging.

Chapter 9Chapter 9

Foreign Currency Foreign Currency

Transactions and an Transactions and an

Introduction to HedgingIntroduction to Hedging

Chapter 9Chapter 9

Foreign Currency Foreign Currency

Transactions and an Transactions and an

Introduction to HedgingIntroduction to Hedging

Lecture TopicsLecture Topics

• Foreign currency translation• Translating transactions• Hedging foreign currency exposure• Disclosure requirements

Lecture ReferencesLecture References

• Text - Chapter 10• AASB - 1012

Key ConceptsKey Concepts

• Exchange rates• Foreign currency• Spot price• Hedge• Specific commitment

Foreign Currency TranslationForeign Currency Translation

• Nature of translation• History of Australian foreign currency

standards• Translation process and exchange rates

– Understanding exchange rates• Direct and indirect quotations• Spot and future quotations• Buy and sell quotations

Translating TransactionsTranslating Transactions

• Simple foreign currency transactions

Ozco • Spent $150 000 on behalf of Forco, a foreign entity

related to Ozco• Ozco bills Forco for reimbursement and is to be

expressed and paid in Forcos’s currency, FC50 000• to: Spot rate FC1 = $3.0 FC50 000 = $150 000• t1: Spot rate FC1 = $2.0 FC50 000 = $100 000

Ozco • Spent $150 000 on behalf of Forco, a foreign entity

related to Ozco• Ozco bills Forco for reimbursement and is to be

expressed and paid in Forcos’s currency, FC50 000• to: Spot rate FC1 = $3.0 FC50 000 = $150 000• t1: Spot rate FC1 = $2.0 FC50 000 = $100 000

Dr Reimbursable costs incurred 150 000Cr Cash 150 000payments for reimbursable costs incurred on behalf of Forco

Dr Reimbursable costs incurred 150 000Cr Cash 150 000payments for reimbursable costs incurred on behalf of Forco

Ozco journal entries to record the Ozco journal entries to record the transaction in Australian dollarstransaction in Australian dollars

• Prior to:

Dr FC Cash 150 000Cr Reimbursable costs incurred 150 000foreign currency transaction on cash terms

Dr Cash 150 000Cr FC Cash 150 000sale of foreign currency to dealer

Dr FC Cash 150 000Cr Reimbursable costs incurred 150 000foreign currency transaction on cash terms

Dr Cash 150 000Cr FC Cash 150 000sale of foreign currency to dealer

OzcoOzco

• Immediate settlement

At to:

Dr FC Account receivable 150 000Cr Reimbursable costs incurred 150 000foreign currency transaction on credit terms

At to:

Dr FC Account receivable 150 000Cr Reimbursable costs incurred 150 000foreign currency transaction on credit terms

OzcoOzco

• Settlement at t1

At t1:

Dr Expense - FC exchange diff. 50 000Cr FC Accounts receivable 50 000revalues the receivable in foreign currency

Dr Cash 100 000Cr FC Accounts receivable 100 000 exchanges the receivable in FC for A$

At t1:

Dr Expense - FC exchange diff. 50 000Cr FC Accounts receivable 50 000revalues the receivable in foreign currency

Dr Cash 100 000Cr FC Accounts receivable 100 000 exchanges the receivable in FC for A$

OzcoOzco

• Settlement at t1

Translating TransactionsTranslating Transactions

• Calculation of exchange differences in intervening reporting dates– Unrealised exchange differences at reporting

date– Exchange difference at payment date

• Translation of sale and purchase of goods and services– Qualifying assets

Translating TransactionsTranslating Transactions

• Treatment of foreign currency purchases and sales– Purchase of inventory and revaluation at reporting date

15 June Dr Inventory xxCr FC Accounts payable xx

30 June Dr Accounts payable xCr Revenue - FC exchange diff. x

15 June Dr Inventory xxCr FC Accounts payable xx

30 June Dr Accounts payable xCr Revenue - FC exchange diff. x

Translating TransactionsTranslating Transactions

• Treatment of foreign currency purchases and sales– Payment

15 July Dr Expense - FC exchange diff. xCr FC Accounts payable x

Dr FC Accounts payable xxCr Cash xx

15 July Dr Expense - FC exchange diff. xCr FC Accounts payable x

Dr FC Accounts payable xxCr Cash xx

Hedging Foreign Currency ExposureHedging Foreign Currency Exposure

• Types of hedges– Hedges using foreign currency contracts– Other types of hedges

• When do we have a hedge?• Important characteristics• Hedge transaction costs

Hedging Foreign Currency ExposureHedging Foreign Currency Exposure

• Treatment of hedges of specific commitments– AASB 1012

• Hedge treated as part of underlying transaction• Specific commitment vs qualifying asset• Treatment of exchange differences

Hedging Foreign Currency ExposureHedging Foreign Currency Exposure

• Treatment of other hedges• Hedging exposure of different types of

underlying transactions– Hedging foreign currency denominated liability– Purchase transactions - inventory– Sale transactions– Hedging foreign currency borrowings– Hedging without the use of FC contracts

HedgingHedging

• Early termination of a hedge or derecognition of an ineffective hedge– Deferred gains and losses

• Unresolved issues in hedge accounting– Recognition vs disclosure issues

Disclosure RequirementsDisclosure Requirements

• AASB 8– Net exchange difference and net gain or loss

• Hedge transactions - AASB 1033– Accounting policies and methods– Extent and nature of underlying financial

instruments

Disclosure RequirementsDisclosure Requirements

• Hedge transactions - AASB 1033– Objective for holding or issuing derivative

financial instruments– Interest rate risk details– Credit risk details– Net fair value of financial assets/liabilities– Details of hedges of anticipated transactions

Where to get more informationWhere to get more information

• Other courses• List books, articles, electronic sources