INTERNATIONAL FINANCE

International Finance

International Finance

Q1-As chief treasurer of GHWB Manufacturing Plc, you are required to insure your company for all international transactions up to the 30th of June 2010 using all possible hedging options. At the same time, you are required to estimate the monthly cash flow position of the company for the same period assuming an opening cash balance of £3,250,000.You should comment on the assumptions you make.

Ans. As the chief treasurer it important to note that One objective of hedge accounting is to protect entities against exposure to foreign exchange risks. Entities often acquire financial instruments to counterbalance their exposures. Hence, hedge accounting can be perceived as the process of linking the hedged item with the hedging instrument so that the effects of changes in market exchange rates are recognized concurrently in income. The offsetting effect from the recognition of the exchange gain in the hedging instrument and the exchange loss in the hedged item occurs only if both items have the same measurement attribute and both are recognized concurrently. However, the current accounting model does not have a common measurement attribute. Recognition differences arise from “selective recognition”. Transactions that gave rise to the same exposure were reported differently, because of this deficiency. For example, under the SFAS 52, firm commitment was selected to defer recognition of exchange gains and losses on hedging instruments until the related exchange gains and losses on hedged items are recognized. This led to the recognition anomaly of classifying deferred gains and losses as assets and liabilities even though they do not meet their definitions. Additionally, it involves the complexity of tedious record keeping to keep track of amounts deferred in previous periods and testing the effectiveness of hedging or hedge correlation. Illustration of the merit of multi-currency accounting is based on an example developed using options as hedging instruments. (Foster, J. B. 2009. Pp. 70-72.)

A comparison between functional currency and multi-currency accounting is made. This is followed by a reconciliation of the two methods. Operational hedging—a strategy designed to manage risks through operational means—provides companies with flexibility in their supply chains, financial positions, distribution patterns and market-facing activities by allowing dynamic adjustments in the locations used to manufacture, source, and sell. When deployed carefully, such flexibility can help to reduce the impact of large and long-term shifts in currency values on costs and revenues. Consistent with the basic premise of the IASC/CICA Steering Committee on Financial Instruments (AAA, 1998), the study applies comprehensive-fair-value accounting in measuring all financial assets and liabilities. The study supports recognizing all derivative products in the financial reports. Financial assets and liabilities (including financial instruments) will be measured at fair value at each reporting date (AAA, 1998, p. 90). The questions considered are: Is multi-currency accounting transparent in reflecting the effectiveness of using the hedging instruments? Is articulation among financial statements, under the multi-currency accounting model warranted? The following example illustrates answers to these two questions. In summary, the financial statements prepared under multi-currency accounting reveal that the hedge ...