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Unformatted text preview: CHAPTER 12 ANSWERS TO QUESTIONS 1. An exchange rate is the ratio between a unit of one currency and the amount of another currency for which that unit can be exchanged at a particular time. A direct quotation is one in which the exchange rate is quoted in terms of how many units of the domestic currency can be converted into one unit of foreign currency. An indirect quotation is stated in terms of converting one unit of domestic currency into units of foreign currency. 2. When a transaction is to be settled in a foreign currency, a change in the exchange rate increases or decreases the expected cash flow to be received or paid when the account is settled. 3. (1) Transaction Date-- at this date, the transaction is recorded. If the transaction is stated in foreign currency units, the exchange rate prevailing at this date is used to convert the foreign currency units to domestic units. (2) Balance Sheet Date-- at this date, recorded dollar balances (or other domestic currency, if applicable) representing receivables or payables that are to be settled in foreign currency units are revalued at the exchange rate on this date. The adjustment is recorded as a transaction gain or loss. (3) Settlement Date-- the foreign currency received or paid is converted into domestic currency at the spot rate. A difference between the conversion and the carrying value of the receivable or payable is a transaction gain or loss. 4. A transaction gain (loss) related to an unsettled receivable should be included in the determination of net income for the current period. 5. Receivable recorded at the transaction date 100,000 × $.009 $900 Receivable recorded at the balance sheet date 100,000 × $.006 600 Transaction loss $300 Receivable is reported at $600 in the balance sheet. 6. A purchase (sale) is viewed as a transaction separate from the method of settlement. Once the purchase (sale) is made, a firm has the choice of settling at the transaction date, thus incurring no gain or loss from subsequent changes in the exchange rate; or purchasing a forward contract, and also avoiding a gain or loss from holding foreign currency commitments. The choice of settlement rests with management, and their decision should have no effect on the valuation of a purchase or sales transaction. 7. A forward exchange contract is an agreement to buy or sell foreign currency units at a particular time for an agreed upon exchange rate. This rate will usually be the forward rate at the time the contract is entered into and any difference between the forward rate and the spot rate is amortized to income over the life of the contract. 8. A forward contract to buy (sell) foreign currency has an opposite effect on income compared to the gain or loss associated with translation of a payable (receivable) to be settled in the foreign currency units....
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This note was uploaded on 07/31/2011 for the course ACCT 401 taught by Professor Bennett during the Spring '08 term at Strayer.
- Spring '08