Accounting for

Global Commerce
Chapter 14
 Chapter Outline
Applications to people within and outside the
firm
Accounting for global commerce
International financial reporting standards
International standards on auditing
Restating foreign subsidiary financial
statements
Working in a different culture
 APPLICATIONS TO PEOPLE
WITHIN & OUTSIDE THE FIRM
The International Accounting Standards Board
(IASB) promotes the use of international
accounting standards by firms around the
world.
The IASB establishes international accounting
standards.
Applications to people within & outside the firm
Internal users: Managers need specific accounting
information related to global operations in order to
assess the profitability associated with those
operations.
External users: Investors, lenders, financial
analysts, and government agencies are concerned:
Is the firm succeeding in the global marketplace?
Is the firm adhering to international regulations
related to trade, human resources, and taxes?
Is the firm affecting other environments?
ACCOUNTING FOR GLOBAL
COMMERCE
International operations are increasingly
important to every type of business.
Many firms are either expanding
international operations or becoming part of
other multinational firms via mergers or
acquisitions.
From the beginning…
In 1600, overseas business opportunities led
to a new type of corporate entity.
Queen Elizabeth chartered the first joint-
stock company, the East India Company.
The charter legally established one corporate
body to manage 220 adventurers.
Funds were collected from a broad array of
investors. Management directed business
operations and ensured that shareholders
received their portion of the profits.
 The challenges of
accounting for global commerce
Challenges include:
Tariffs
Language barriers
Cultural differences
Incompatible equipment standards
Recording foreign sales and purchases
 Cross-functional teamwork
Managers rely on the accounting information
system to provide information regarding
international markets. For example:
Marketing needs information about sales
volume, distribution costs, manufacturing
costs, profitability analysis, and tax costs.
Production needs information on raw
material costs, start-up costs for new
facilities, and inventory storage expenses.
 Recording foreign sales
A customer in a different country can be
billed in the company’s domestic currency or
in the foreign currency of the customer.
Regardless of which currency is used for
billing, a U.S. company must keep its
accounting records in one currency, usually
the U.S. dollar.
If the customer is billed in U.S. dollars, the
transaction is recorded the same as for a
U.S. customer.
 Recording foreign sales
If the customer is billed in a foreign currency:
Example - German customer is billed in euros
instead of $10,000 U.S. dollars.
Assume the dollar-to-euro exchange rate is
2.00 ($2 per euro). The customer is billed for
5,000 euros ($10,000/2 = 5,000).
To record sale denominated in foreign currency
(FC):
June 1 Accounts Receivable (FC) 10,000
Sales 10,000
 Exchange loss
Between the time sale is made and payment
received, the exchange rate may change.
Example - German customer pays 5,000 euros on
June 30. The exchange rate is now 1.90 ($1.90 per
euro), making the payment worth $9,500 (5,000 x
1.90). The U.S. firm incurs a loss since the euros
were worth $10,000 at the time of sale.
The $500 difference is recorded as exchange loss:
June 30 Cash 9,500
Exchange Loss 500
Accounts Receivable (FC)
10,000
 Exchange gain
Example - The U.S. firm can incur an
exchange gain if the euro increases in value
relative to the U.S. dollar.
The exchange rate increases to 2.2 ($2.20
per euro). 5,000 euros x $2.2 = $11,000.
The difference is recorded as exchange gain:
June 30 Cash 11,000
Exchange Gain 1,000
Accounts Receivable (FC) 10,000
 Recording foreign purchases
If the purchase is made in U.S. dollars, the
transaction is recorded the same as for a
U.S. supplier.
If the foreign supplier requires payment in
their currency, the U.S. company may
experience an exchange gain or loss due to
fluctuating exchange rates.
INTERNATIONAL FINANCIAL
REPORTING STANDARDS
United States GAAP differs from Egyptian
GAAP, which differs from Japanese GAAP.
A country’s generally accepted accounting
principles reflect the culture in which they
were developed.
 Differences in the evolution of
GAAP from country to country
The great success of the U.S. economic
system can be traced to the business
environment established at the very
beginning of the nation.
Buying and selling stock of publicly traded
corporations was part of the American
culture almost from the beginning.
The New York Stock Exchange was created in
1792, just 16 years after the birth of the U.S.
 Differences in the evolution of
GAAP from country to country
The need for financial disclosure is less
important in cultures that do not have
widespread public ownership of major
corporations like the U.S.
For example, German corporations are
largely owned by banks. Since stock for
these corporations are not publicly traded,
GAAP in Germany does not require the same
provisions as U.S. GAAP.
 Adhering to GAAP for the
multinational corporation
Multinational corporations must prepare
financial reports according to the GAAP of
the various countries in which they do
business.
The International Accounting Standards
Board (IASB) publishes the International
Financial Reporting Standards (IFRS).
The IFRSs are the generally accepted accounting
principles required or voluntarily used in
countries worldwide.
International Accounting Standards Board
(IASB)
The IASB is an independent, privately funded
accounting standard-setter based in London.
Board members come from various countries
and backgrounds.
The Board is committed to developing a
single set of understandable and enforceable
international accounting standards that
require transparent and comparable
information in financial statements.
 Objectives of international
financial reporting standards (IFRSs)
Increasing harmonization of accounting
standards and disclosures to meet the needs
of the global market.
Providing an accounting basis for
underdeveloped or newly industrialized
countries to follow as the accounting
profession emerges in those countries.
Increasing the compatibility of domestic and
international accounting requirements.
Acceptance of international standards
While the IFRSs are becoming more visible in the
U.S., the Securities Exchange Commission (SEC)
still requires financial statements to be based on or
reconciled to U.S. GAAP.
This requirement is unacceptable to some firms.
Until 1994, there were no German-based firms listed
on any U.S. stock exchange because they were
unwilling to comply with U.S. standards.
For many accounting issues there is no significant
difference between U.S. GAAP and the IFRSs.
Acceptance of international standards
IFRSs are gaining increased acceptance, with
some 80 countries pledging participation if
standards are found to be acceptable.
The International Organization of Securities
Commissions (IOSCO) may ultimately
determine global acceptance of the IFRSs.
Over 60 securities regulatory agencies
worldwide comprise the IOSCO, including the
U.S. SEC.
Contributions from the United Nations
While the IFRSs are the premier international
standards, the United Nation’s International
Standards on Accounting and Reporting
(ISARs) have made meaningful contributions
to accounting around the world.
INTERNATIONAL STANDARDS ON
AUDITING
The International Standards on Auditing
(ISAs) are a set of standards that provide
guidance on auditing.
ISAs are issued by the International Auditing and
Assurance Standards Board (IAASB).
Adherence to the international standards is
up to individual nations and their auditing
regulatory agencies.
 International standards on auditing
Uniformity in auditing standards is beneficial in
the global marketplace. However,
international subsidiaries of a company may
use different accounting procedures that
affect financial results. People within the
company must recognize and interpret these
different procedures.
RESTATING FOREIGN SUBSIDIARY
FINANCIAL STATEMENTS
When a U.S.-based multinational corporation
owns more than 50 percent of the voting
stock of a foreign company, a parent-
subsidiary relationship exists.
The parent company is the investing
company and is usually required to prepare
consolidated financial statements.
Consolidated financial statements are two or
more sets of financial statements combined into
one set.
Restating foreign subsidiary financial statements

Prerequisites to consolidating financial

statements:
1. The financial statements of the foreign
subsidiary must be recast using U.S. GAAP.
2. The foreign accounts must be translated
from the foreign currency into U.S. dollars.
Restating foreign subsidiary financial statements

Terms:
Currency of books and records (CBR):
currency of foreign financial statements.
Functional currency (FC): currency in which
the subsidiary buys, sells, borrows, repays,
and generally conducts business.
Reporting currency (RC): currency of
consolidated financial statements.
Restating foreign subsidiary financial statements

Three methods can be used for currency

translation:
Current rate method
Temporal rate method
Use of both methods
Rules for determining method of translation
1. If the functional currency (FC) is hyper-
inflationary, ignore the FC and re-measure
the currency of books and records (CBR) into
the reporting currency (RC) using the
temporal rate method.
2. If the CBR is different from the FC, re-
measure the CBR into the FC using the
temporal rate method.
3. Translate from the FC into the RC using the
current rate method.
 Current rate method
Using the current rate method, all assets and
liabilities are translated using the current
rate (i.e., exchange rate on the balance
sheet date).
Owners' equity and dividends are translated
at historical rates (exchange rate at time of
transaction).
Income statement items are translated using
the the average of the exchange rate at the
beginning of the accounting period and the
current rate.
 Temporal rate method
Under the temporal rate method, the
objective is to measure each subsidiary
transaction as though the parent had made
the transaction.
Monetary items are re-measured using the
current exchange rate.
Other items are re-measured using historical
exchange rates.
 Cumulative translation adjustment
Since different exchange rates are applied to
different accounts, the resulting dollar-
denominated trial balance will not likely
balance.
The cumulative translation adjustment is the
debit or credit required to bring the dollar-
denominated accounts into balance
The change in the cumulative translation
adjustment during the current accounting
period is the translation gain or loss.
WORKING IN A DIFFERENT CULTURE

Many multinational companies provide

orientation programs to their employees
bound for international assignments in order
to prepare them for differences in culture,
laws, and the marketplace.
 The international job assignment
The following factors are considered when selecting
an employee for an international job assignment:
Technical competence
Long-term potential with the company
Personal adaptability
Interpersonal skills
Interest in going on an international assignment
Language skills
Prior international travel experience
 International business
and Hofstede’s cultural factors
The cultural environment influences the
values of a society. In turn, values affect
behavior.
When people do business outside their home
culture, lack of sensitivity to different cultures
may lead to unintentionally offending
someone.
Hofstede’s research identified four
dimensions of differences among national
cultures. Each will be discussed.
 Hofstede’s cultural factors
Power distance (large vs small)
The extent to which the members of a
society accept the fact that power in
institutions and organizations is unequally
distributed.
People in large power-distance societies
accept a hierarchical order in which
everybody has a place.
The U.S. scores relatively low on power distance
 Hofstede’s cultural factors
Uncertainty avoidance
The degree to which members of a society
feel uncomfortable with uncertainty and
ambiguity.
Strong uncertainty avoidance cultures have
very strict guidelines and do not tolerate
deviation from these standards.
The U.S. scores relatively low on uncertainty
avoidance.
 Hofstede’s cultural factors
Individualism vs collectivism
Indicates whether the focus is on the
individual or the group.
It relates to the degree of interdependence
among society members. Is one’s self-
concept: “I” or “we?”
The average American is more individualistic
than the average person in other cultures.
 Hofstede’s cultural factors
Masculinity vs femininity
Relates to traits traditionally associated with
male and female genders.
A masculine society focuses on achievement,
heroism, assertiveness, and material
success.
A feminine society focuses on relationships,
caring for the weak, and the quality of life.
The U.S. is relatively balanced compared to other
nations.
 Hofstede’s cultural factors
Time orientation
Relates to long-term versus short-term time
orientation.
A short-term orientation emphasizes social
and status obligations, and spending rather
than saving.
A long-term orientation emphases a virtuous
approach to life, saving, sacrifice for long-
term goals and the greater good.
The average American has a short-term time
orientation compared to other nations.
 Cross-functional teamwork
Understanding cultural differences helps all
departments, for example:
Marketing must understand the preferences and
taboos of a culture can determine the success or
failure of a product.
Human resources must know how to relate to the
foreign workforce in order to hire and retain
competent personnel.
Production must be knowledgeable of the available
resources.
All departments must be familiar with the rules of
their host government.