Globalization Is A Continuous Process Whereby Managers Becom
Globalization Is A Continuous Process Whereby Managers Become Aware Of
Globalization is a continuous process whereby managers become aware of the impact of international activities on their companies. This process takes place in stages that include exporting, licensing, joint ventures, wholly owned subsidiaries, and global sourcing. Each stage has implications for the type of accounting information reported. Striking Furs imports furs from Canada. In the space provided below, prepare journal entries to record the following events.
Dec. 11, 2017: Purchased furs from Capable Trappers, Ltd., a Canadian corporation, at a price of 25,000 Canadian dollars, due in 60 days. The current exchange rate is $0.85 U.S. dollars per Canadian dollar. (Striking uses the perpetual inventory method; debit the Inventory account.)
Dec. 31, 2017: Striking made a year-end adjusting entry relating to the account payable to Capable Trappers. The exchange rate at year-end is $0.89 U.S. dollars per Canadian dollar.
Feb. 9, 2018: Issued a check for $21,750 (U.S. dollars) to National Bank in full settlement of the liability to Capable Trappers, Ltd. The exchange rate at this date is $0.87 U.S. dollars per Canadian dollar.
Paper For Above instruction
Introduction
In an increasingly interconnected world, globalization influences managerial decision-making and accounting practices across multinational companies. As firms expand their international activities—ranging from exporting to establishing wholly owned subsidiaries—they face complex financial transactions involving foreign currencies. Such transactions necessitate accurate recording and strategic management to minimize financial risks associated with currency fluctuations. This paper explores the accounting entries required for a company, Striking Furs, that imports furs from Canada and examines how it can protect itself against foreign exchange risks.
Accounting Entries for Foreign Currency Transactions
The first event involves the purchase of inventory from a Canadian supplier, which is initially recorded at the spot exchange rate at the transaction date. Since Striking Furs employs the perpetual inventory system, the inventory account is debited directly to reflect the purchased goods' value in U.S. dollars.
December 11, 2017: Purchase of Furs
The purchase amount is 25,000 Canadian dollars, and the exchange rate is $0.85 per Canadian dollar. The journal entry is calculated as follows:
- Amount in USD = 25,000 CAD x $0.85 = $21,250
The journal entry on December 11, 2017, would be:
```plaintext
Inventory $21,250
Accounts Payable (Canadian Supplier) $21,250
```
This initial recognition accounts for the inventory at the current exchange rate, aligning with the translational method used in foreign currency transactions.
December 31, 2017: Year-End Adjustment
At year-end, the exchange rate has changed to $0.89 per Canadian dollar, resulting in a different USD value of the payable:
- New amount in USD = 25,000 CAD x $0.89 = $22,250
Since the payable was initially recorded at $21,250, an adjustment is needed to reflect the currency fluctuation:
- Adjustment = $22,250 - $21,250 = $1,000 increase
The entry recognizes the unrealized foreign exchange loss:
```plaintext
Foreign Exchange Loss $1,000
Accounts Payable $1,000
```
This adjustment aligns the payable's USD value with the current exchange rate, highlighting the potential risk of currency movements.
February 9, 2018: Settlement of Liability
When Striking Furs pays the supplier, the USD amount paid is $21,750. The exchange rate has moved to $0.87 per Canadian dollar:
- Amount in CAD = USD paid / exchange rate = $21,750 / $0.87 ≈ 25,000 CAD
The company settles its payable with the bank, and the final exchange rate impact is recognized as follows:
- The payable was previously adjusted to its current USD equivalent; now, payment occurs at a different rate, resulting in a realized foreign exchange loss or gain.
The journal entry to record the payment:
```plaintext
Accounts Payable $22,250
Foreign Exchange Loss (or Gain) $500
Cash $21,750
```
Alternatively, since the original payable was recorded at $22,250, and actual payment in USD is $21,750, the difference of $500 represents a foreign exchange loss if the USD value decreases.
Summary of Foreign Currency Accounting
This process demonstrates how companies must continually monitor and adjust for exchange rate fluctuations to accurately reflect their financial position. The combination of initial recognition, year-end adjustment, and settlement entries ensures transparency and compliance with accounting standards like IFRS or GAAP.
Strategies to Hedge Foreign Exchange Risks
To mitigate potential losses from adverse currency movements, Striking Furs can adopt several hedging strategies:
Forward Contracts:
Engaging in forward contracts allows the company to lock in a specific exchange rate for future payments, effectively removing the uncertainty regarding currency fluctuations. By entering into a forward agreement with a bank, Striking Furs can agree on a rate for the 25,000 CAD payable, ensuring predictable costs regardless of market volatility.
Currency Options:
Purchasing currency options provides the right but not the obligation to buy or sell foreign currency at a predetermined rate before a specified date. Options serve as insurance against unfavorable rate movements while still allowing benefit from favorable shifts, thus offering flexibility alongside risk management.
Natural Hedging:
The company can offset foreign currency receivables and payables to balance currency exposure naturally. For example, they could increase sales in Canada or source supplies within the same currency zone, reducing net currency exposure without entering into derivative contracts.
Diversification of Supply Chain:
Reducing reliance on a single foreign supplier or currency minimizes risk. Sourcing from multiple countries with diverse currencies can hedge against specific currency volatility and smooth out fluctuations.
Monitoring and Forecasting:
Regularly analyzing foreign exchange trends and economic indicators enables proactive decision-making. Accurate forecasting helps in planning currency strategies and timing currency conversions optimally.
Maintaining a Currency Hedging Policy:
Formulating a comprehensive currency risk management policy ensures consistent application of hedging strategies, aligning with the company’s overall financial objectives and risk appetite.
Conclusion
Foreign currency transactions pose significant risks to companies engaged in international trade, as exemplified by Striking Furs' import from Canada. Proper accounting treatment involves recording initial transactions at the spot rate, adjusting for currency fluctuations at year-end, and recognizing gains or losses upon settlement. To protect against potential losses from unfavorable exchange rate movements, companies must implement effective hedging strategies like forward contracts, options, natural hedging, and diversification. A proactive approach to currency risk management enhances financial stability and supports sustainable international operations in the dynamic landscape of globalization.
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