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International Business
Environments & Operations

15e

Daniels ● Radebaugh ● Sullivan

International Business Environments and Operations 15e by Daniels, Radebaugh, and Sullivan

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Chapter 19

International Accounting and Finance Issues

Chapter 19: International Accounting and Finance Issues

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Learning Objectives

Examine the major factors influencing the development of accounting practices in different countries
Examine the global convergence of accounting standards
Explain how companies account for foreign-currency transactions and translate foreign-currency financial statements

The Learning Objectives for this chapter are

To examine the major factors influencing the development of accounting practices in different countries
To examine the global convergence of accounting standards
To explain how companies account for foreign-currency transactions and translate foreign-currency financial statements

Learning Objectives

Explain how companies include international factors in the capital budgeting process
Discuss the major internal sources of funds available to the MNE and show how they are managed globally
Describe how companies protect against the major financial risks of inflation and exchange rate movements

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To explain how companies include international factors in the capital budgeting process
To discuss the major internal sources of funds available to the MNE and show how they are managed globally
To describe how companies protect against the major financial risks of inflation and exchange rate movements

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Introduction

Accounting provides information used by CFOs to make decisions
Accounting and finance rely on each other to fulfill their responsibilities

Accounting provides the information used by CFOs to make decisions. The CFO works closely with the chief accountant, also known as the controller, to safeguard the assets of the business.

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The Crossroads of
Accounting and Finance

What the Controller Controls

This Figure shows what the controller controls. Notice that the controller is part of the finance function. While accounting is a main focus, controllers are also involved with a range of other issues, and so must have a broad perspective of business in general.

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Accounting for
International Differences

Financial statements differ by country
Form
Content
Terminology

MNEs face a variety of accounting standards and practices around the world. In many cases both the form and the content of financial statements differ by country. Moreover, terminology differences between countries can make things even more complicated.

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Accounting Objectives

The Financial Accounting Standards Board (FASB)
establishes accounting standards in the United States
The International Accounting Standards Board (IASB)
sets accounting standards for the broader global community

Accounting information is used by investors, employers, lenders, suppliers and other trade customers, governments, and the public.

Information reported in the United States follows FASB standards. The IASB sets standards for the broader global community.

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Accounting Objectives

Who Uses Accounting Information?

This Figure shows the different parties using accounting information.

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Factors in International Accounting Practices

Learning Objective:

Examine the major factors influencing the development of accounting practices in different countries

Learning Objective : To examine the major factors influencing the development of accounting practices in different countries.

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Factors in International Accounting Practices

Sources of Influence on Accounting

This Figure shows the factors that influence accounting standards and practices. While all of the factors are important, their significance varies by country.

Perhaps one of the biggest influencers though is culture – and specifically differences in measurement and disclosure practices.

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Cultural Differences
in Accounting

A Disclosure/Assessment Matrix for National Accounting Systems

This Figure shows the secrecy-transparency/optimism-conservatism matrix. It indicates the degree to which companies disclose information to the public and the degree of caution they use in valuing assets and recognizing income.

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Cultural Differences
in Accounting

Greater involvement in capital markets leads to a shift towards greater use of standards and practices according to
U.S. Generally Accepted Accounting Principles (GAAP)
International Financial Reporting Standards (IFRS)

As companies in the upper right quadrant of the secrecy-transparency/optimism-conservatism matrix use capital markets more, they move toward Anglo-American standards and practices like GAAP or IFRS.

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Differences in
Financial Statements

The financial statements of one country differ from those of another by
Language
Currency
Statement type
Underlying GAAP on which the statements are based

Financial statements differ by country depending on the language, currency, statement type, and underlying GAAP on which the statements are based.

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International Standards and Global Convergence

Learning Objective:

Examine the global convergence of accounting standards

Learning Objective : To examine the global convergence of accounting standards.

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International Standards and Global Convergence

Major approaches to dealing with accounting and reporting differences
Mutual Recognition
Reconciliation

Several forces are pushing for a convergence of accounting standards worldwide.

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The First Steps in Convergence

International Organization of Securities Commissions (IOSCO)
regulators of most of the world stock markets
endorses IASB

Convergence involves bringing different GAAPs into line with the IFRS issued by the IASB. This process has been facilitated by the IOSCO’s endorsement of IASB standards.

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The International Accounting Standards Board

In March of 2001 the IASB was organized and new reporting standards were adopted.
The International Financial Reporting Standards (IFRS) were created

The IASB is trying to harmonize accounting standards by issuing IFRS. In addition, it’s working with the FASB to eliminate differences in accounting standards.

Recently, efforts have slowed as the focus has shifted to resolving the credit crisis and global recession. In addition, a new SEC chairman appears to be less committed to the process.

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Transactions in
Foreign Currencies

Learning Objective:

Explain how companies account for foreign-currency transactions and translate foreign-currency financial statements

Learning Objective : To explain how companies account for foreign-currency transactions and translate foreign-currency financial statements.

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Transactions in
Foreign Currencies

Recording transactions
exchange rate losses and gains
reported on the income statement at the end of the accounting period
FASB Statement 52 is used in the U.S.

Companies operating internationally must consider how exchange rate fluctuations affect foreign currency receivables and payables. In the United States, foreign currency transactions are recorded using FASB Statement 52.

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Translating Foreign Currency Financial Statements

Translation
the process of restating foreign currency financial statements into U.S. dollars
Consolidation
the combination of translated financial statements into one

U.S. companies operating abroad need to combine their financial reports into a single set of documents. This is achieved through translation and consolidation.

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Translating Foreign Currency Financial Statements

Translation methods
Current rate
applies when the local currency is the functional currency
Temporal rate
applies when the parent’s reporting currency is the functional currency

Translation can be done using the current rate method or the temporal rate method. The choice depends on the functional currency of the foreign operation.

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International Financial Issues

Learning Objective:

Explain how companies include international factors in the capital budgeting process

Learning Objective : To explain how companies include international factors in the capital budgeting process

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International Financial Issues

Capital Budgeting in a Global Context
MNEs need to determine free cash flows based on cash flow estimates and tax rates in different countries
They must then apply an appropriate required rate of return, adjusted for the risk

In addition to preparing financial statements for external users, MNEs must also deal with other issues including performance evaluation and control, the impact of transfer pricing on performance evaluation, and the balanced scorecard.

Internal Sources of Funds

Learning Objective:
Discuss the major internal sources of funds available to the MNE and show how they are managed globally

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Learning Objective:

To discuss the major internal sources of funds available to the MNE and show how they are managed globally

Internal Sources of Funds

Sources of internal funds include
Loans
Investments through equity capital
Intercompany receivables and payables
Dividends

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Sources of internal funds include loans, investments through equity capital, intercompany receivables and payables, and dividends

How the MNE Handles its Funds

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Global Cash Management

What are the local and corporate needs for cash?
How can cash be withdrawn from subsidiaries and centralized?
Once the cash has been centralized, what should be done with it?

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What are the local and corporate needs for cash?

How can cash be withdrawn from subsidiaries and centralized?

Once the cash has been centralized, what should be done with it?

MNE and Multilateral Cash Flow

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This illustrates an example of cash flows in an MNE

MNE and Multilateral Netting

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Creation of a clearing account provides for greater efficiency in international cash management

Foreign Exchange Risk Management

Learning Objective:
Describe how companies protect against the major financial risks of inflation and exchange rate movements

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Learning Objective:

To describe how companies protect against the major financial risks of inflation and exchange rate movements

Foreign Exchange Risk Management

Types of Exposure
Translation exposure
Transaction exposure
Economic (or Operating) exposure

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Companies faced different types of Exposure, such as translation exposure, transaction exposure, and economic (or operating) exposure

Foreign Exchange Risk Management

Exposure-Management Strategy
Define and measure exposure
Establish a reporting system
Adopt an overall policy on exposure management
Formulate hedging strategies

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An Exposure-Management Strategy would include the following steps:

Define and measure exposure

Establish a reporting system

Adopt an overall policy on exposure management

Formulate hedging strategies

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Board of Directors

Chairperson

President and CEO

VP of Sales/Marketing VP of Finance or CFO VP of Operations VP of R&D

Controller Treasurer

Establishment of accounting standards

and procedures

Preparation of financial statements for internal

and external use

Evaluation of operations Cash flow management

Hedging activities Tax planning

Internal auditing Assistance in establishing

and implementing corporate strategy

The public

Governments and their agencies

Customers Suppliers and

other trade creditors

Lenders

Employees

Investors

IFRS users

Accounting Profession

Strength and reputation Domestic and foreign firms Education standards Auditing standards

Degree of influence on standards Relationship to former colonial powers Membership in trade blocs, e.g., the EU

Secrecy vs. transparency Optimism vs. conservatism

Economic system Economic growth Inflation and exchange rates

Domestic International

Securities regulations Securities markets—domestic and international Importance of external financing

Investors Lenders Other creditors Other users

Political Influences

Cultural Environment

Economic Environment

Standard Setters

Capital Markets

Users

Greater caution in assessment

Secrecy

Transparency

Optimism Conservatism

Anglo-American

Nordic

Asian colonial

African

Germanic Near Eastern

Japan Less developed

Asian More developed Latin

Less developed Latin

Le ss

d is

cl o su

re t o t h e

p u b li c

French Subsidiary

Brazilian Subsidiary

Parent Company

Dividends, royalties, and fees

Loans Invests more equity capital

Guarantees loans

Loans

Extensions of accounts payable

French Subsidiary

Italian Subsidiary

$150,000

$50,000

$200,000

$200,000$200,000

$100,000 U.K. Subsidiary

German Subsidiary

$150,000

$150,000$100,000

$100,000

German Subsidiary

U.K. Subsidiary

Italian Subsidiary

French Subsidiary

Clearing Account