Derivatives Hedging Currency

Question 2

How are derivatives recorded?

Answer 2

At cost when acquired, re-valued to fair value each period on Balance Sheet.

Question 3

How are unrealized gains/losses on trading securities recorded?

Answer 3

Recorded on income statement

Question 4

How are gains and losses on Available for Sale (AFS) securities recorded?

Answer 4

They are included in Other Comprehensive Income.

Question 5

What is a Fair Value Hedge? How is it recorded?

Answer 5

Fair Value Hedge offsets exposure to changes in the value of a recognized asset/liability or of an unrecognized commitment

Initially recorded on Balance Sheet at Fair Value

Gains/Losses recorded on Income Statement

Question 6

What is a Cash Flow Hedge? How is it recorded?

Answer 6

Cash flow hedges protect from exposure to fluctuations in cash flows.

Initially recorded on Balance Sheet at Fair Value

Gains/Losses going to OCI

Example: A cereal company enters into a futures contract on grain purchases to offset the risk that grain will go up in price.

Question 7

Where are gains and losses on foreign currency hedges recorded?

Answer 7

In Other Comprehensive Income (OCI)

Question 8

What disclosures are required for derivative transactions?

Answer 8

Objectives and Strategies

Context to help investor understand the instrument

Risk Management Policies

Complete List of Hedged Instruments

Question 9

How do transactions denominated in in a currency other than a company’s functional currency affect the income statement?

Answer 9

Fluctuations in that currency cause a gain or loss that must be recognized on the income statement as Income from Continuing Operations

Question 10

For the balance sheet, which date’s translation rate is used to report assets and liabilities?

Answer 10

The current translation rate as of the balance sheet date is used to report assets and liabilities.

Question 11

Which date’s currency translation rate is used for the reporting of revenue and expense transactions in a foreign currency?

Answer 11

Use the weighted average exchange rate for the current year.

Question 12

If the functional currency is the reporting currency, which exchange rate is used on the foreign currency financial statements?

Answer 12

Foreign Currency Financial Statements are remeasured into the Reporting Currency (Dollar) using the weighted-average exchange rate

Question 13

Where are remeasurement gains and losses due to foreign currency translation reported?

Answer 13

On the income statement as Other Income.

Question 14

Exchange rates can be expressed using the direct method or the indirect method. What are they?

Answer 14

Direct method is the domestic price for one unit of another currency (ex: one euro costs $1.50)

Indirect method is the foreign price for one unit of the domestic currency (ex: 8 pesos buys $1.00)

Question 15

What is the spot rate?

Answer 15

The spot rate is the current exchange rate

Question 16

What is functional currency?

Answer 16

Functional currency is the currency of the entity ultimately reporting financial results of the foreign entity. It determines the conversion methodology to use (Remeasurement or Translation).

Functional currency can be the entity’s local currency, the currency of the reporting entity, or the currency of another country.

Question 17

Under U.S. GAAP, what determines functional currency?

Answer 17

Under U.S. GAAP, an entity’s local currency qualifies as its functional currency if it is the currency of the PRIMARY economic environment in which the company operates, and all of the following conditions exist:

1. Foreign operations are relatively self-contained and integrated within the country.
2. Day-to-day operations do not depend on the parent’s or investor’s functional currency.
3. The local economy of the foreign entity is NOT highly inflationary (defined as cumulative inflation of 100% in over 3 years).

Question 18

Under IFRS what determines functional currency?

Answer 18

Under IFRS, the following factors must be considered in determining functional currency. The first three factors have priority over the others:

1. The currency that influences sales prices for goods and services.
2. The currency of the country whose competitive forces and regulations primarily determine the sales price of its goods and services.
3. The currency that mainly influences labor, material, and other costs of providing goods and services.
4. The currency in which funds from financing activities are generated.
5. The currency in which funds from operating activities are usually retained.
6. Whether the activities for an operation are an extension of the parent’s activity or carried out with a significant amount of autonomy.
7. Whether transactions with the parent are a large or small portion of the foreign entity’s activities.
8. Whether cash flows generated by the foreign operation directly affect cash flow of the parent and are available to be remitted to the parent.