Unit VII Case Study (For hifsa shaukat Only) International Business

MBA 6601, International Business 1

Course Learning Outcomes for Unit VII Upon completion of this unit, students should be able to:

7. Examine the concepts of gross national product, gross domestic product, and balance of payments. 7.1 Define the concept of balance of payments (BOPs).

10. Examine and differentiate the accounting concepts of General Accepted

Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). 10.1 Examine international accounting differences. 10.2 Differentiate between GAAP and IFRS. 10.3 Explain foreign exchange risk management.

Unit Lesson Balance of payments (BOP) is an accounting of a country’s international transactions. As a result of these transactions, this creates either a surplus or deficit. For example, if a country exports more than it is receiving in imports, it will result in a surplus. Further, if a country receives imports more than exporting, it will result in a deficit. The accounting equation for BOP is:

 CA+KA+OSB=0

Note: This equation reflects a zero balance, thus if the CA and KA do not equal as result of double entry recording, a “statistical discrepancy” maybe added to zero out BOP.

 Current account (CA) are transactions for good and services.

 Capital account (KA) are transactions that involve buying and selling assets (e.g., money, investments).

 Official settlement balance (OSB) are transactions that involve the federal government (i.e., transactions involving the central bank).

Note: If a country has a deficit in current account (CA), they normally have a surplus in capital account (KA). Conversely, if there is a surplus in the current account (CA), they normally have a deficit in capital account. The transactions are recorded/journalized similar to bank transactions. For example, when there is a credit to your account, money is added, and when there is a debit to your account, money is subtracted or taken away. The following represents a summation of how transactions are recorded to BOP: CA: Goods and services that are brought into the country (imports) are a debit (-) to BOP. Goods and services that are sent out of the country (exports) are a credit (+) to BOP.

Reading Assignment Chapter 19: International Accounting and Finance Issues

UNIT VII STUDY GUIDE

International Accounting and Balance of Payments (BOP)

MBA 6601, International Business 2

Note: In this section, assets refers to money and investments (stocks and bonds), or purchase of foreign companies (foreign direct investment, FDI). KA: Purchase and sale of a U.S. asset by foreigners is a credit to the capital account in BOP. Purchase and sale of a foreign asset by U.S. residents is a debit to the capital account in BOP. Note: In this section, transactions are normally net change in foreign exchange reserves and government borrowing. These transactions may also include central bank transactions. OSB: An increase in dollar reserves held by foreign central banks will be a credit (+) to the BOP account. A decrease in dollar reserves held by foreign central banks will be a debit (-) to the BOP account. The following represents an example that illustrates double entry recording to the BOP account:

 Jane travels to the UK to purchase equipment to be used in the facility she will be opening at the end of the month. The equipment was purchased at ABC Equipment Company at a cost of $25,000. She used dollars to purchase the equipment. ABC Equipment Company deposited the dollars in its U.S. bank account. The transaction is as follows:

o debit current account (CA) $25,000, and o credit capital account (KA) $25,000.

The current account is debited because Jane purchased an import; therefore, the amount is subtracted from the U.S. BOP. The capital account is credited because there is an increase in U.S. dollar reserves Chief financial officers (CFOs) and controllers of multinational companies are always faced with differences in financial reporting. In the United States, the standards and procedures used when preparing financial statements are called General Accepted Accounting Principles (GAAP). The organization that establishes and governs GAAP is called the Financial Accounting Standards Board (FASB). On the other hand, over 70 countries abroad use International Financial Reporting Standards (IFRS), which are governed by the International Accounting Standards Board (IASB). Under GAAP, the accounting equation is:

 Assets = liabilities + shareholders’ equity

According to Daniels, Radebaugh, and Sullivan (2015), the accounting equation in European countries is:

 Noncurrent assets + current assets = shareholders’ equity + noncurrent liabilities + current liabilities

As a result, in reporting of financial statements as well as recording entries, these may have differences. One of the differences in the balance sheet financial statement is that in the United States (GAAP), the most liquid asset is reported first (which is cash). Under International Financial Reporting Standards (IFRS), the least liquid asset is reported first (i.e., goodwill). Deloitte LLP is a global accounting firm that provides services in auditing, financial advisory, risk management, and taxes. In 2004, Deloitte LLP published a special

MBA 6601, International Business 3

edition on the key differences in IFRS and GAAP relating to the recording of financial information. Some of the findings were (Deloitte, 2004) and were not being addressed: Extraordinary items:

 IFRS: Prohibited

 GAAP: Permitted, but restricted to rare items that may affect profit and loss Comparative prior year financial statements:

 IFRS: One year comparative financial statement is required

 GAAP: Securities Exchange Commission (SEC) regulations require three years of comparative financial data.

Method for determining inventory cost:

 IFRS: LIFO is prohibited

 GAAP: LIFO is permitted According to Daniels et al. (2015), there are also differences in the presentation of financial information. These differences include:

 Language: Although global companies may have facilities based in the U.S., their financial statements may be in a different language, making it difficult to read.

 Currency: Global companies that are based in other countries may prepare their financial statements in the currency of their country (e.g., Euros, pounds).

 Statement type: As mentioned earlier, one of the financial statement reportings (balance sheet) is slightly different than the U.S. GAAP.

 Underlying GAAP on which the statements are based: As mentioned earlier, some of the differences that exist are not currently being addressed. Also, there are some differences in tax accounting, but they are normally reconciled within the body of the consolidated financial statements.

Because of exchange rate fluctuation, financial statements may be subject to various types of exposure. These, according to Daniels et al. (2015), are:

 translation exposure,

 transaction exposure, and

 economic or operational exposure.

To combat and protect assets from the types of exposure mentioned above, management should develop an exposure management strategy.

References

Daniels, J. D., Radebaugh, L. H., & Sullivan, D. P. (2015). International business: Environments and operations (15th ed.). Upper Saddle River, NJ: Pearson Education.

Deloitte, LLP. (2004). Key differences between IFRSs and U.S. GAAP. IAS Special

Edition. Retrieved from http://www.iasplus.com/en/ publications/global/ ifrs-in- focus/2004/ias-plus-newsletter-2014-summary-of-key-differences-between- ifrss-and-U.S.-gaap/ at_download/file/0406ifrsus.pdf