978-1259317224 Chapter 15 Part 1

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

Module 15: International Accounting and Financial

Management

Use this Instructor Guide to incorporate the unique content of this product and facilitate your

Face-to-Face, Online, and Hybrid classes. This guide has been designed to be interactive and links

have been created within each title in the Table of Contents to guide you to each section. You

can also link back to the main page by clicking at the button at the bottom of each page.

Here is the Table of Contents highlighting what you’ll be able to find to support you in teaching

this module:

YOUR CONTENT

Summary

Learning Objectives

Key Terms & Key Terms with Definitions

Content Outline

CONNECT TOOLS FOR CLASS PREPARATION

SmartBook

What is SmartBook?

How Does SmartBook Help You/Students?

How to assign SmartBook to ensure students come to class prepared?

ENGAGEMENT & APPLICATION (FACE TO FACE & ONLINE & HYBRID)

BOXED TEXT DISCUSSION QUESTIONS WITH SUGGESTED ANSWERS

IB IN PRACTICE

GLOBAL DEBATE

GET THAT JOB! FROM BACKPACK TO BRIEFCASE

Critical Thinking Questions

Global Edge Research Task

MiniCase

Bonus Activities

Video Suggestions

Team Exercises

Supplemental Lecture

Tools & Tricks

Controversial Issues

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

CONNECT TOOLS FOR ASSESSEM ENT OF LEARNING

Interactive Applications

Assigning Interactives

Time-Saving Hints:

Connect Content Matrix

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

YOUR CONTENT

SUMMARY

This chapter examines accounting as a fundamental tool of financial management. We look at

the differences in standards among nations and their progress towards convergence. Then we

look at the capital structure of the firm and cash management, including techniques such as

multilateral netting and approaches to managing currency fluctuations.

The lack of a global currency creates foreign exchange risk for international companies. Finance

and accounting managers have tools to help mitigate various risks associated with foreign

exchange risk, including hedging, exposure netting, price adjustment, balance sheet neutralizing,

and swaps. We also look at an additional financial force with which international managers must

contend, taxation.

LEARNING OBJECTIVES

LO 15-1 Outline the major accounting issues international firms face when operating in

foreign currencies.

LO 15-2 Outline the benefits and limitations of 3BL.

LO 15-3 Compare the capital structure choices open to international firms and their

significance.

LO 15-4 Describe why ICs move funds and the utility of an international finance center.

LO 15-5 Identify foreign exchange risks the IC faces and ways to address them.

LO 15-6 Describe taxation as an international financial force.

KEY TERMS AND DEFINITIONS

American depository receipts

(ADRs) (p. 400)

Foreign shares held by a custodian, usually a U.S. bank, in the

issuer’s home market and traded in dollars on the U.S.

exchange

branch (p. 411)

Legal extension of the parent company

consolidation (p. 395)

Describe taxation as an international financial force.

current rate method (p. 395)

An approach in foreign currency translation in which assets and

liabilities are valued at current spot rates

currency option hedge

(p. 407)

An option to buy or sell a specific amount of foreign currency

at a specific time in order to protect against foreign currency

risk

economic exposure (p. 409)

The potential for the value of future cash flows to be affected

by unanticipated exchange rate movements

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

forward market hedge

(p. 407)

Foreign currency contract sold or bought forward to protect

against foreign currency movement

fronting loan (p. 403)

A loan made through an intermediary, usually a bank, from

parent company to subsidiary

functional currency (p. 395)

The primary currency of a business

hedge (p. 404)

To hold assets (to take a position) in one market in order to

offset exposure to price changes in an opposite position

income tax (p. 409)

Direct tax levied on earnings

leading and lagging (p. 405)

Timing payments early (lead) or late (lag), depending on

anticipatedcurrency movements, so that they have the most

favorable impactfor the company

money market hedge (p. 407)

A method to hedge foreign currency exposure by borrowing

and lending in the domestic and foreign money markets

multilateral netting (p. 404)

Strategy in which subsidiaries transfer net intracompany cash

flows through a centralized clearing center

offshore financial center

(p. 401)

Location that specializes in financing nonresidents, with low

taxes and few banking regulations

subsidiary (p. 411)

Separate legal entity owned by the parent company

swap contract (p. 407)

A spot sale/purchase of an asset against a future purchase/sale

of an equal amount in order to hedge a financial position

temporal method (p. 395)

An approach in foreign currency translation in which monetary

accounts are valued at the spot rate and accounts carried at

historical cost are translated at their historic exchange rates

transaction exposure (p. 406)

Change in the value of a financial position created by foreign

currency changes between the establishment and the

settlement of a contract

transfer pricing (p. 403)

Pricing that is established for transactions between members

of the enterprise

translation exposure (p. 408)

Potential change in the value of a company’s financial

positiondue to exposure created during the consolidation

process

value-added tax (VAT)

(p. 409)

Indirect tax collected from the parties as they add value to the

product

withholding tax (p. 411)

Indirect tax paid by the payor, usually on passive income

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

CONTENT OUTLINE

The following section provides the flow of information using the LEARNING OBJECTIVES as a

guide, KEY TERMS learners will need to take away from the course and a notation of when to use

POWERPOINT SLIDES with LECTURE NOTES to drive home teaching points.

LO 15-1

Outline the major accounting issues international firms face

when operating in foreign currencies.

• Purpose of international accounting: to provide

managers with data

• Foreign currency transactions raise issues in two

situations: operating in foreign currency and

consolidation

o Two rate methods: current and temporal

o Use hinges on functional currency, the

currency of the business

• U.S. and rest of world accounting systems on path of

convergence

• Accounting affected by culture

Key Terms:

• consolidation

• current rate method

• temporal method

• functional currency

I. Purpose of International accounting is to provide managers the data they need to make

decisions and provide people outside the organization the information they need

(governments, suppliers, investors)

II. Foreign currency issues come up in only two situations

A. When business operates in foreign currency, (sales, loans, purchases), that transaction

needs to be translated into the home country currency (consolidation)

B. Two approaches to translation: (See Fig. 15.1)

1. current rate, when the translation uses the spot rate

2. temporal rate, when the translation uses an historic rate for some translations and

spot rate for others.

3. depends on the currency in which the business is conducted (functional currency)

III. There are two basic accounting standards

A. The U.S. Financial Accounting Standards Accounting Board (FASB), under the supervision of

the SEC, provides generally accepted accounting principles (GAAP)

B. The International Accounting Standards Board (IASB), whose standards are the

International Financial Reporting Standards (IFRS), used by the rest of the world

C. Convergence towards IFRS is underway, but a slow process. GAAP based on rules and

regulations; IFRS on principles

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

IV. Accounting affected by culture

A. Assumptions that underlie the history, legal sand political systems influence accounting

B. The understanding of accounting varies by culture: to control and prevent dishonesty or to

facilitate good decisions and record value? (See Fig. 15.2)

LO 15-2

Outline the benefits and limitations of 3BL.

• Provides a way to report environmental, social and

economic impacts

• Key information in developing sustainable business

• Benefits and limitations

o Allows results to be shared with internal and

external stakeholders

o Provides data for assessing trends

o 3 BL not comparable across businesses

Key Terms:

I. 3 BL is a way business can report its environmental, social and economic impacts

A. This is a key step in developing sustainable approaches

B. There are benefits and limitations

1. Benefits

a. Allows the results to be shared with external stakeholders

b. Provides data necessary for assessing effects and trends within the business

2. Limitations

c. Not the right approach because measures not comparable across businesses

d. Need objective measures that allow for comparability

LO 15-3

Compare the capital structure choices open to international

firms and their significance.

• Firm raises capital from two sources

o internal (retained earnings )

o external (equity or debt)

• Increasing use of foreign stock markets

o Issuing stocks in foreign markets

o Use of ADRs

o Concerns re foreign control

Key Terms:

• American

depository receipts

(ADRs)

• offshore financial

centers

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

• Increasing use of foreign debt markets

o trend to tap local markets first

o role of offshore financial centers

• Balance of debt to equity influenced by local practice

• Decisions related to raising capital

o What currency?

o Balance between equity and debt?

o What sources of capital are there?

o Which are lowest cost markets?

o Are other sources available?

o How much and for how long?

I. Firms raise capital from two sources

A. Internal sources, retained earnings

B. External sources, equity or debt

II. Increasing use of foreign stock markets

A. Firms issue stock on foreign exchanges directly or use ADRs (in U.S. market)

B. Control by foreigners is a concern, esp. in sensitive industries

III. Increasing use of foreign debt markets

A. Trend is to tap local markets first

B. Offshore financial centers may also be a source of capital

IV. Balance of debt to equity is influenced by local practice

A. UK, U.S. and Canada tend to rely more on equity

B. Many other countries, incl. Japan and Germany, tend to rely more on debt (Japanese

keiretsu)

V. Decisions made by a financial manager related to raising capital include

A. In what currency should the capital be raised, considering estimates of longterm strengths

and weakneses?

B. How should the capital be structured between equity and debt?

C. What sources of capital are available? (bank loan, swap, bond issue, IPO, issuance of

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

additional stock, etc.)

D. If using a capital market, which one?

E. Are other sources of many available? (JV partner, private financing, host government)

F. How much money and for how long?

LO 15-4

Describe why ICs move funds and the utility of an international

finance center.

• Why firms move funds

o dividends, royalties, payments of loans, transfer

pricing

o moving of funds may serve as way to manage

cash flows (blocked funds, away from high tax

areas, reduce FX risk)

• Techniques for moving funds

o Fronting loan from parent to subsidiary, using

bank as intermediary

o Transfer pricing

• Utility of international finance center (firm’s

centralized finance operations) due to

o volatility of floating exchange rates

o growth in number of FX and capital markets

o differing inflation rates among markets

o ability to transfer funds electronically

o use of idle cash generates profits

o growth of derivatives to protect against risks

• Finance center techniques

o Hedging –holding of assets in one market to

offset exposure in another

o multilateral netting—centralized clearing center

o leading and lagging

Key Terms:

• fronting loan

• transfer pricing

• hedge

• multilateral netting

• leading and lagging

I. Why Firms Move Funds

A. Firms move funds to make royalty payments, pay dividends, pay loans, pay for intra-firm

transfers ( via transfer pricing)

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

B. As they move funds, firms also can achieve cash flow management objectives

1. dealing with funds whose repatriation is blocked

2. achieving tax management objectives by locating profits in low-tax environments

3. reducing foreign exchange risk by moving away from areas that have high risk of

devaluation

II. Techniques for moving funds

A. Fronting loan, from parent to subsidiary, uses bank as intermediary as way to avoid host

government intra-firm transfer limitations

B. Transfer pricing (on internal sales) allows firm to move funds from high-tax, high risk

environments to lower risk, lower tax ones. Also firm may avoid tariffs and currency transfer

controls.

1. may raise ethical issues

2. not in spirit of host country law

III. Usefulness of international finance center, a centralization of finance operation as a profit

center (like company bank)

A. Helpful in managing volatility of floating exchange rates

B. Useful in accessing growing number of FX and capital markets

C. Helpful in hedging the risks related to differences in inflation rates among markets

D. Supported by development of electronic funds transfer capabilities

E. Management of idle cash can generate profits

F. Use of derivatives (contracts whose values are derived from the value of underlying assets)

have developed as a way to manage risks

IV. Techniques used by international finance centers

A. Multilateral netting—using a central clearing house for funds transfers among HQ and

subsidiaries

1. reduces transactions costs

2. reduces FX costs

3. allows firm to benefit from investment of idle funds

B. Leading and lagging—timing payments early or late, depending on anticipated currency

movements

LO 15-5

Identify foreign exchange risks the IC faces and ways to

address them.

• Three types of exchange risks

o Transaction exposure, addressed via

o leading/lagging

o exposure netting

Key Terms:

• transaction exposure

• forward market hedge

• currency option hedge

• money market hedge

International Business

Geringer, McNett, Minor, Ball

Instructor Guide to Module 15

o forward market hedge

o currency option hedge

o money market hedge

o swap contract

o Translation exposure-mostly not addressed

o Economic exposure—firm-wide and long-term

• swap contract

• translation exposure

• economic exposure

There are three types of exchange risks or exposures, transaction, translation and economic.

A. Transaction exposure arises when the firm has transactions in a foreign currency and the

FX rate changes between when the commitment is made and when it is payable. Here

are ways to address transaction exposure:

1. Leading or lagging a payment or its collection, depending on the anticipated FX

movement

2. Exposure netting—similar to multilateral netting, a centralized clearing that matches

exposures

3. Forward market hedge—FX contract (buy or sell) bought forward to protect against

FX movement

4. Currency option hedge—an option to buy or sell a specific amount of currency at a

specific time in the future

5. Money market hedge—matching exposures by borrowing and lending in the

domestic money markets

6. Swap contract—agreement to exchange currencies at specific rates and on a

specified date. May be undertaken for longer periods than other hedging

transactions.

B. Translation exposure is mostly not hedged because it does not represent cash flow.

(Hedging can increase transaction exposure.)

C. Economic exposure –at operations level and results from FX rate changes on future cash

flows. It is firm-wide and long-term.

1. Hedging and swap contracts may be used

2. Flexibility on foreign sourcing and portfolio approach to foreign market involvement

also helpful

LO 15-6

Describe taxation as an international financial force.

• Tax affects revenues and is an external force

• Three types

Key Terms:

• income tax

• value-added tax (VAT)