This document discusses international accounting and financial management topics. It covers major international accounting issues firms face, the convergence of accounting standards, accounting for foreign currency transactions, cultural influences on accounting, capital structure choices for international firms, cash flow management across borders, and types of foreign exchange risk. The learning objectives are to understand these international accounting and financial management challenges and strategies.

1. Chapter 17
International Accounting
and Financial Management
McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

2. 17-2
Learning Objectives
• LO1 Identify the major international accounting
issues that international firms face.
• LO2 Describe the international accounting
standards’ convergence process and its importance to
international firms.
• LO3 Explain the capital structure choices open to
international firms and their significance.
• LO4 Describe the process of cash flow management
in the traditional firm.
• LO5 Categorize foreign exchange risks faced by the
international firm into transaction exposure,
translation exposure and economic exposure.
• LO1 Identify the major international accounting
issues that international firms face.
• LO2 Describe the international accounting
standards’ convergence process and its importance to
international firms.
• LO3 Explain the capital structure choices open to
international firms and their significance.
• LO4 Describe the process of cash flow management
in the traditional firm.
• LO5 Categorize foreign exchange risks faced by the
international firm into transaction exposure,
translation exposure and economic exposure.

3. 17-3
International Accounting
• International accounting is important:
– Managers use in decision making
– External constituencies’ decision making
Investors
Governments
Lenders
Suppliers
– Governments as basis to levy taxes
• What constitutes useful data varies from
country to country
• International accounting is important:
– Managers use in decision making
– External constituencies’ decision making
Investors
Governments
Lenders
Suppliers
– Governments as basis to levy taxes
• What constitutes useful data varies from
country to country

4. 17-4
Accounting and Foreign Currency
• Accounting and foreign
currency issues are
raised when:
– transactions are
made in foreign
currencies
– subsidiaries operate
in foreign currencies
• Accounting and foreign
currency issues are
raised when:
– transactions are
made in foreign
currencies
– subsidiaries operate
in foreign currencies
• Foreign currency
transactions need to be
recorded as:
• Revenues
• Expenses
• Assets or
• Liabilities
• U.S. subsidiaries must
report in U.S.$ and
conform to GAAP –
Consolidation
• Foreign currency
transactions need to be
recorded as:
• Revenues
• Expenses
• Assets or
• Liabilities
• U.S. subsidiaries must
report in U.S.$ and
conform to GAAP –
Consolidation

5. 17-5
Accounting and Foreign Currency
• Consolidation:
 The process of translating
subsidiary results and
aggregating them into one
financial report
• Consolidation:
 The process of translating
subsidiary results and
aggregating them into one
financial report
• Current Rate Method:
 assets and liabilities are
valued at current spot
rates
• Temporal Method
 monetary accounts are
valued a the spot rate and
accounts carried at
historical cost are
translated at their historic
exchange rate
• Current Rate Method:
 assets and liabilities are
valued at current spot
rates
• Temporal Method
 monetary accounts are
valued a the spot rate and
accounts carried at
historical cost are
translated at their historic
exchange rate

6. 17-6

7. 17-7
Accounting and Culture
• Accounting follows different cultural
patterns globally
• Sidney Gray’s country classifications:
– Secrecy-transparency
•Understated asset values & income
– Optimism-conservatism
•Overstated asset values & income
• Accounting follows different cultural
patterns globally
• Sidney Gray’s country classifications:
– Secrecy-transparency
•Understated asset values & income
– Optimism-conservatism
•Overstated asset values & income

8. 17-8

9. 17-9
Convergence of Accounting Standards
• Two groups working
toward a harmonized set
of international
accounting standards:
– Financial Accounting
Standards Board (FASB)
 U.S. Generally Accepted
Accounting Principles
(U.S.GAAP)
– International Accounting
Standards Board (IASB)
 International Financial
Reporting Standards
(IFRS)
• Two groups working
toward a harmonized set
of international
accounting standards:
– Financial Accounting
Standards Board (FASB)
 U.S. Generally Accepted
Accounting Principles
(U.S.GAAP)
– International Accounting
Standards Board (IASB)
 International Financial
Reporting Standards
(IFRS)
• Additionally
– EU & Council of Europe
require IASB
– U.S. SEC no longer requires
FASB compliance for foreign
firms
– Sarbanes-Oxley (SOX)
• Additionally
– EU & Council of Europe
require IASB
– U.S. SEC no longer requires
FASB compliance for foreign
firms
– Sarbanes-Oxley (SOX)

10. 17-10
Triple-Bottom-Line Accounting
• Triple-Bottom Line
Accounting (3BL):
– “A results or impact report
on the environment,
social, and financial
impacts of the business”
• Triple-Bottom Line
Accounting (3BL):
– “A results or impact report
on the environment,
social, and financial
impacts of the business”
• 3BL supports:
– Sustainability
– Corporate social
responsibility
• Objections:
– environmental impact and
social performance cannot be
measured objectively
– Detracts from efforts to
combine with positive
economic results
• Argument against 3BL:
– Measurement will not reach
desired state
• 3BL supports:
– Sustainability
– Corporate social
responsibility
• Objections:
– environmental impact and
social performance cannot be
measured objectively
– Detracts from efforts to
combine with positive
economic results
• Argument against 3BL:
– Measurement will not reach
desired state

11. 17-11
International Financial
Management
• Capital structure
• Cash flow management across borders
• Financial flows
• Foreign exchange (FX)
• Risk management
• Non-monetary sales
• Taxes
• Capital structure
• Cash flow management across borders
• Financial flows
• Foreign exchange (FX)
• Risk management
• Non-monetary sales
• Taxes

12. 17-12
Capital Structure of the Firm
• Firms raise capital in various ways:
 Retained earnings
 Equity:
• American Depository Receipts (ADRs):
• “Foreign shares held by a custodian in the issuer’s
home market and traded in dollars on the U.S.
exchange”
 Debt:
Offshore Financial Center:
“Location specializing in financing nonresidents with
low taxes and few banking regulations”
• Firms raise capital in various ways:
 Retained earnings
 Equity:
• American Depository Receipts (ADRs):
• “Foreign shares held by a custodian in the issuer’s
home market and traded in dollars on the U.S.
exchange”
 Debt:
Offshore Financial Center:
“Location specializing in financing nonresidents with
low taxes and few banking regulations”

13. 17-13
Decisions in Raising Capital
• Firms must decide:
– In which currency to raise capital?
– How to structure - equity or debt?
– Which source of capital to use?
– Whether to use world capital markets?
– Whether there are alternative sources of money
available?
– How much money the firm needs and for how long?
• Firms must decide:
– In which currency to raise capital?
– How to structure - equity or debt?
– Which source of capital to use?
– Whether to use world capital markets?
– Whether there are alternative sources of money
available?
– How much money the firm needs and for how long?

14. 17-14
Cash Flow Management
• Overall goal:
– Reduce Risks
– Position firm to
benefit from
opportunities
• Overall goal:
– Reduce Risks
– Position firm to
benefit from
opportunities
• Why funds are
moved:
– Dividends
– Royalties
– Fees from subsidiary
– Transfer pricing
– Reduce FX risk
– Direct loans
• Why funds are
moved:
– Dividends
– Royalties
– Fees from subsidiary
– Transfer pricing
– Reduce FX risk
– Direct loans

15. 17-15
Methods of Transferring Funds
• Fronting loan:
– “Loan made through an intermediary,
usually a bank, from parent to subsidiary”
• Transfer price:
– “The bookkeeping cost of goods sold
transferred from one business unit to
another”
• Fronting loan:
– “Loan made through an intermediary,
usually a bank, from parent to subsidiary”
• Transfer price:
– “The bookkeeping cost of goods sold
transferred from one business unit to
another”

16. 17-16
International Finance Center
• Reasons for centralized IFC
development:
1. Volatile floating FX rates
2. Larger capital & FX markets offer lower interest
rates and lower FX costs
3. Changing inflation rates
4. Electronic cash management
5. Innovative management of idle cash
6. Growth of derivatives to protect against
commodity, currency & interest rate risks
• Reasons for centralized IFC
development:
1. Volatile floating FX rates
2. Larger capital & FX markets offer lower interest
rates and lower FX costs
3. Changing inflation rates
4. Electronic cash management
5. Innovative management of idle cash
6. Growth of derivatives to protect against
commodity, currency & interest rate risks

17. 17-17
Multilateral Netting
• Multilateral Netting:
– “Strategy where subsidiaries transfer net
intracompany cash flows through a centralized
clearing center”
• Why consider?
– Transaction cost
– Opportunity cost
• Multilateral Netting:
– “Strategy where subsidiaries transfer net
intracompany cash flows through a centralized
clearing center”
• Why consider?
– Transaction cost
– Opportunity cost

18. 17-18

19. 17-19
Leading and Lagging
• Floating FX rates
create risk
• Leading & lagging
minimizes FX risk
• Floating FX rates
create risk
• Leading & lagging
minimizes FX risk
• Leading & Lagging:
– “Timing payments
early (lead) or late
(lag) depending on
anticipated currency
m movements so they
have the most
favorable impact for
the firm”
• Leading & Lagging:
– “Timing payments
early (lead) or late
(lag) depending on
anticipated currency
m movements so they
have the most
favorable impact for
the firm”

20. 17-20
Foreign Exchange
Risk Management
• Transaction exposure:
– “Change in the value of a financial position created by foreign
currency changes between the establishment and settlement of
a contract”
• Translation exposure:
– “Potential change in value of a company’s financial position
due to exposure created during the financial consolidation
process”
• Hedging:
– “A process to reduce or eliminate financial risk”
• Transaction exposure:
– “Change in the value of a financial position created by foreign
currency changes between the establishment and settlement of
a contract”
• Translation exposure:
– “Potential change in value of a company’s financial position
due to exposure created during the financial consolidation
process”
• Hedging:
– “A process to reduce or eliminate financial risk”

21. 17-21
Transaction Exposure
• Transactions are denominated in a foreign
currency:
• Transactions are denominated in a foreign
currency:

22. 17-22
Types of Hedges & Swaps

23. 17-23
Translation Exposure
• Translation Exposure:
– “the potential change in the value of the company’s
financial position due to exposure created during
the consolidation process”
• Firms need to identify what currency
exchange rate to use for translation and
consolidation
• Firms can use the current rate method or the
temporal rate method to convert currencies
• Translation Exposure:
– “the potential change in the value of the company’s
financial position due to exposure created during
the consolidation process”
• Firms need to identify what currency
exchange rate to use for translation and
consolidation
• Firms can use the current rate method or the
temporal rate method to convert currencies

24. 17-24
Economic Exposure
• Occurs at the operational level
• Results from exchange rate changes on
projected cash slows
• Is long-term
• Goes across the firm
• Includes fixed and financial assets
• Occurs at the operational level
• Results from exchange rate changes on
projected cash slows
• Is long-term
• Goes across the firm
• Includes fixed and financial assets

25. 17-25
Taxation
• Income Tax –
– “Direct tax levied on
earnings”
• Value-Added Tax
(VAT) –
– “Indirect tax collected
from parties as they add
value to the product”
• Withholding Tax –
– “Indirect tax paid by
payor, usually on passive
income”
• Income Tax –
– “Direct tax levied on
earnings”
• Value-Added Tax
(VAT) –
– “Indirect tax collected
from parties as they add
value to the product”
• Withholding Tax –
– “Indirect tax paid by
payor, usually on passive
income”
• Branch –
– “Legal extension of the
parent company”
• Subsidiary –
– “Separate legal entity
owned by the parent
company”
• Controlled Foreign
Corporation (CFC)–
– “50+% ownership of a
foreign subsidiary
• Branch –
– “Legal extension of the
parent company”
• Subsidiary –
– “Separate legal entity
owned by the parent
company”
• Controlled Foreign
Corporation (CFC)–
– “50+% ownership of a
foreign subsidiary

26. 17-26
GLOBAL gauntlet
• Microloan Bankers:
Charity or For-Profit
Business Model?
• Microloan Bankers:
Charity or For-Profit
Business Model?
• What are microloans?
• Why do almost 100% of
poor entrepreneurs
repay microloan debt?
• How is shift to ROI
changing microloans?
• Does private capital
bring more money to the
poor?
• Is profiting from
microloans to the poor
ethical?
• What are microloans?
• Why do almost 100% of
poor entrepreneurs
repay microloan debt?
• How is shift to ROI
changing microloans?
• Does private capital
bring more money to the
poor?
• Is profiting from
microloans to the poor
ethical?