(International Accounting, 6e Timothy Doupnik, Mark Finn, Giorgio Gotti, Hector Perera)
(Solution Manual all Chapters)
CHAPTER 1
INTRODUCTION TO INTERNATIONAL ACCOUNTING
Chapter Outline
I. International accounting is an extremely broad topic.
A. At a minimum, it focuses on the accounting issues unique to multinational corporations,
especially with respect to international transactions and foreign investments.
B. At the other extreme, it encompasses the study of the various functional areas of
accounting in all countries of the world, as well as the activities of a number of
supranational organizations.
C. This book provides an overview of the broadly defined area of international accounting,
including certain supranational guidelines, but focusing on the accounting issues related
to international business activities and foreign investments. In other words, this book
focuses on international accounting issues at the company level that are specifically
relevant to multinational corporations.
II. There are several accounting issues encountered by companies involved in international
trade.
A. One issue is the accounting for foreign currency-denominated export sales and import
purchases. An important issue is how to account for changes in the value of the foreign
currency-denominated account receivable (payable) that occur as exchange rates
fluctuate.
B. A related issue is the accounting for derivative financial instruments, such as forward
contracts and foreign currency options, used to hedge the foreign exchange risk
associated with foreign currency transactions.
III. There is an even greater number of accounting issues encountered by companies that have
made a direct investment in a foreign operation. These issues primarily result from the fact
that accounting rules, tax laws, and other regulations differ across countries, and include:
A. Figuring out how to make sense of the financial statements of a foreign acquisition target
prepared in accordance with an unfamiliar GAAP when making a foreign direct
investment decision.
B. Determining the correct amounts to include in consolidated financial statements for the
assets, liabilities, revenues, and expenses of foreign operations. The consolidation of a
foreign subsidiary involves a two-step process: (1) restate foreign GAAP financial
statements into parent company GAAP and (2) translate foreign currency amounts into
parent company currency. Determining the appropriate translation method and deciding
how to report the resulting translation adjustment are important questions.
C. Complying with host country income tax laws, as well as home country tax laws related
to income earned in a foreign country (foreign source income). Double taxation of
income is a potential problem, and foreign tax credits are the most important relief from
this problem.
D. Establishing prices for intercompany transactions that cross national borders
(international transfer prices) to achieve corporate objectives and at the same time
comply with governmental regulations.
E. Evaluating the performance of both a foreign operating unit and its management.
Decisions must be made with respect to issues such as the currency in which a foreign
operation should be evaluated and whether foreign management should be held
responsible for items over which they have little control.
1-1
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
, Chapter 01 - Introduction to International Accounting
F. Establishing an effective internal audit function to help maintain control over foreign
operations. Differences in culture, customs, and language must be taken into
consideration.
G. Deciding whether to cross-list securities on foreign stock exchanges and complying with
local stock exchange regulations to do so. This could involve the preparation of financial
information in accordance with a GAAP different from that used by the company.
IV. As companies have become more multinational, so have their external auditors. The Big 4
public accounting firms are among the most multinational business organizations in the
world.
V. Problems encountered by MNCs when confronted with different local GAAP in different
countries lead to the desire for a single set of global accounting standards. There would be
significant advantages to MNCs if all countries used the same GAAP.
VI. The world economy is becoming increasingly more integrated. International trade (imports
and exports) has grown substantially in recent years and has become a normal part of
business for relatively small companies. The number of U.S. exporting companies has
increased four-fold over the last three decades.
VII. The tremendous growth in foreign direct investment (FDI) over the last several decades is
partially attributable to the liberalization of investment laws in many countries specifically
aimed at attracting FDI. The aggregate revenues generated by foreign operations are more
than twice as large as the revenues generated through exporting.
VIII. There were more than 82,000 multinational companies in the world in 2009 with 810,000
foreign subsidiaries. The 100 largest multinationals generated approximately 4% of global
GDP. A disproportionate number of multinational corporations are headquartered in the
United States, China, Japan, and the European Union.
IX. According to one definition of multinationality used by the United Nations, six of the ten most
multinational companies in the world in 2020 were headquartered in Europe.
X. In addition to establishing operations overseas, many companies also cross-list their shares
on stock exchanges outside of their home countries. There are a number of reasons for
doing this, including having access to a larger pool of capital.
Answers to Questions
1. In 2020, companies worldwide exported over $17.5 trillion worth of merchandise. Although
international trade has existed for thousands of years, recent growth in trade has been
phenomenal. Over the period 2009–2019, U.S. exports increased from $1,056 billion to
$1,645 billion per year, a 56% increase. During the same period, Chinese exports more than
doubled to $2,499 billion in 2019.
2. Companies engaged in international trade with imports and exports denominated in foreign
currencies are faced with the accounting issue of translating foreign currency amounts into
the company’s reporting currency and reporting the effects of changes in exchange rates in
the financial statements. Many of these companies also engage in hedging activities to
reduce the risk of changes in exchange rates. The accounting for derivative financial
instruments used to hedge foreign exchange risk can be quite complicated.
1-2
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
,Chapter 01 - Introduction to International Accounting
3. Financial reporting issues that result from foreign direct investment are (a) conversion of
foreign GAAP to parent company GAAP and (b) translation of foreign currency to parent
company reporting currency to prepare consolidated financial statements.
4. Two major taxation issues related to a foreign direct investment are (a) taxation of the
investee’s income by the host country in which the investment is located and (b) taxation of
the investee’s income by the investor’s home country. Companies with foreign direct
investments need to develop an expertise in the host country’s income tax rules, as well as
in the home country’s tax rules with respect to foreign source income.
5. Companies must make several decisions in designing the system for evaluating the
performance of foreign operations. Two of these are (a) deciding whether to evaluate
performance on the basis of foreign currency or parent company reporting currency and (b)
deciding whether to factor out of the performance measure those items over which the
foreign operation’s managers have no control.
6. Two reasons to have stock listed on the stock exchange of a foreign country are (a) to
obtain capital in that country, perhaps at a more reasonable cost than is available at home,
and (b) to have an “acquisition currency” for acquiring firms in that country through stock
swaps.
7. The United Nations, as an example, measures the multinationality of companies based on
the average of three factors: the ratio of foreign sales to total sales, the ratio of foreign
assets to total assets, and the ratio of foreign employees to total employees. Information
about foreign sales and foreign assets generally is provided in a company’s annual report.
Information about the number of foreign employees also might be provided in the annual
report or other publications through which a company provides information to the public.
8. A single set of accounting standards used worldwide would have the following benefits for
multinational corporations:
• Reduce the cost of preparing consolidated financial statements
• Reduce the cost of gaining access to capital in foreign countries
• Facilitate the analysis and comparison of financial statements of competitors and
potential acquisitions
Solutions to Exercises and Problems
1. Sony uses the following procedures to translate the foreign currency financial statements of
its foreign subsidiaries into Japanese yen:
• All assets and liabilities are translated at the year-end exchange rate
• All income and expense accounts are translated at the exchange rate prevailing on the
transaction date
• The resulting translation adjustment is included in accumulated other comprehensive
income (stockholders’ equity)
Sony uses the following procedures to translate foreign currency payables and receivables
into Japanese yen:
• All foreign currency receivables and payables are translated into Japanese yen at the
year-end exchange rate
• Changes in the Japanese yen value of foreign currency receivables and payables are
reported as gains and losses in income
1-3
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
, Chapter 01 - Introduction to International Accounting
2. Note: Since this book went to press, the Tax Foundation discontinued providing a
separate PDF file with corporate tax rate data on its “Corporate Tax Rates Around the
World” webpage. Instead, the webpage has a “Print this Page” button that pops out
on the right-hand side of the page. Students should be directed to “Print this Page”
and “Save to PDF.” Answers to complete this exercise can then be found in the
printed/saved PDF.
The answers below are based on the Tax Foundation’s “Corporate Tax Rates around the
World, 2022” publication (https://taxfoundation.org/publications/corporate-tax-rates-around-
the-world/) dated December 13, 2022.
a. Table 2 indicates the following countries have a tax rate larger than 35 percent:
Comoros, Puerto Rico, and Suriname.
b. Table 3 indicates the following countries have a tax rate smaller than 10 percent:
Barbados, Turkmenistan, and Hungary.
c. Table 4 provides a list of countries without a general corporate income tax including:
Bahamas, Bahrain, Cayman Islands, and United Arab Emirates.
d. Table 5 shows that South America has the largest average corporate income tax rate
(28.38%).
e. Table 5 shows that Asia has the smallest average corporate income tax rate (19.52%).
f. Table 5 indicates that the World average corporate income tax rate is 23.37%.
g. Table 6 shows that the corporate income tax rates in Italy and Switzerland are 27.81%
and 19.7%, respectively. Thus, all else equal, a multinational corporation would pay a
smaller amount of corporate income tax to the local government by establishing a
subsidiary in Switzerland rather than in Italy.
3.
a. The BRL pre-tax income becomes a USD pre-tax loss because Sales and Expenses are
translated at different exchange rates. Specifically, we can deduce that Sales are
translated at an exchange rate of USD 0.25 per 1 BRL [USD 2,500 / BRL 10,000] and
Expenses are translated at an exchange rate of USD 0.30 per 1 BRL [USD 2,850 / BRL
9,500].
Note: In Chapter 7, “Translation of Foreign Currency Financial Statements,” students will
learn that, under the temporal method of translation, sales revenue is translated at the
average for the current year exchange rate and depreciation expense is translated at the
exchange rate that existed when property, plant, and equipment was acquired. Thus,
when a foreign currency is falling in value against the U.S. dollar, and depreciation
represents a significant amount of a foreign operation’s expenses, it is possible for a
positive net income in foreign currency to be translated into a U.S. dollar net loss.
b. The question is whether Modular Office Corporation should use BRL income or USD
income to evaluate the performance of MOB’s president. There is no unequivocally
correct answer to this question. Issues that might be discussed include:
• What is the Brazilian subsidiary’s objective? For example, to generate profits that
can be distributed to U.S. stockholders? If so, then USD would be the logical
currency for evaluating performance.
• Does MOB’s president have the ability to “control” USD income, for example, by
hedging against changes in the USD per BRL exchange rate? If not, then it might not
make sense to evaluate MOB’s president’s performance on the basis of USD
income.
• Do the translation procedures that result in a USD pre-tax loss make economic
1-4
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
(Solution Manual all Chapters)
CHAPTER 1
INTRODUCTION TO INTERNATIONAL ACCOUNTING
Chapter Outline
I. International accounting is an extremely broad topic.
A. At a minimum, it focuses on the accounting issues unique to multinational corporations,
especially with respect to international transactions and foreign investments.
B. At the other extreme, it encompasses the study of the various functional areas of
accounting in all countries of the world, as well as the activities of a number of
supranational organizations.
C. This book provides an overview of the broadly defined area of international accounting,
including certain supranational guidelines, but focusing on the accounting issues related
to international business activities and foreign investments. In other words, this book
focuses on international accounting issues at the company level that are specifically
relevant to multinational corporations.
II. There are several accounting issues encountered by companies involved in international
trade.
A. One issue is the accounting for foreign currency-denominated export sales and import
purchases. An important issue is how to account for changes in the value of the foreign
currency-denominated account receivable (payable) that occur as exchange rates
fluctuate.
B. A related issue is the accounting for derivative financial instruments, such as forward
contracts and foreign currency options, used to hedge the foreign exchange risk
associated with foreign currency transactions.
III. There is an even greater number of accounting issues encountered by companies that have
made a direct investment in a foreign operation. These issues primarily result from the fact
that accounting rules, tax laws, and other regulations differ across countries, and include:
A. Figuring out how to make sense of the financial statements of a foreign acquisition target
prepared in accordance with an unfamiliar GAAP when making a foreign direct
investment decision.
B. Determining the correct amounts to include in consolidated financial statements for the
assets, liabilities, revenues, and expenses of foreign operations. The consolidation of a
foreign subsidiary involves a two-step process: (1) restate foreign GAAP financial
statements into parent company GAAP and (2) translate foreign currency amounts into
parent company currency. Determining the appropriate translation method and deciding
how to report the resulting translation adjustment are important questions.
C. Complying with host country income tax laws, as well as home country tax laws related
to income earned in a foreign country (foreign source income). Double taxation of
income is a potential problem, and foreign tax credits are the most important relief from
this problem.
D. Establishing prices for intercompany transactions that cross national borders
(international transfer prices) to achieve corporate objectives and at the same time
comply with governmental regulations.
E. Evaluating the performance of both a foreign operating unit and its management.
Decisions must be made with respect to issues such as the currency in which a foreign
operation should be evaluated and whether foreign management should be held
responsible for items over which they have little control.
1-1
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
, Chapter 01 - Introduction to International Accounting
F. Establishing an effective internal audit function to help maintain control over foreign
operations. Differences in culture, customs, and language must be taken into
consideration.
G. Deciding whether to cross-list securities on foreign stock exchanges and complying with
local stock exchange regulations to do so. This could involve the preparation of financial
information in accordance with a GAAP different from that used by the company.
IV. As companies have become more multinational, so have their external auditors. The Big 4
public accounting firms are among the most multinational business organizations in the
world.
V. Problems encountered by MNCs when confronted with different local GAAP in different
countries lead to the desire for a single set of global accounting standards. There would be
significant advantages to MNCs if all countries used the same GAAP.
VI. The world economy is becoming increasingly more integrated. International trade (imports
and exports) has grown substantially in recent years and has become a normal part of
business for relatively small companies. The number of U.S. exporting companies has
increased four-fold over the last three decades.
VII. The tremendous growth in foreign direct investment (FDI) over the last several decades is
partially attributable to the liberalization of investment laws in many countries specifically
aimed at attracting FDI. The aggregate revenues generated by foreign operations are more
than twice as large as the revenues generated through exporting.
VIII. There were more than 82,000 multinational companies in the world in 2009 with 810,000
foreign subsidiaries. The 100 largest multinationals generated approximately 4% of global
GDP. A disproportionate number of multinational corporations are headquartered in the
United States, China, Japan, and the European Union.
IX. According to one definition of multinationality used by the United Nations, six of the ten most
multinational companies in the world in 2020 were headquartered in Europe.
X. In addition to establishing operations overseas, many companies also cross-list their shares
on stock exchanges outside of their home countries. There are a number of reasons for
doing this, including having access to a larger pool of capital.
Answers to Questions
1. In 2020, companies worldwide exported over $17.5 trillion worth of merchandise. Although
international trade has existed for thousands of years, recent growth in trade has been
phenomenal. Over the period 2009–2019, U.S. exports increased from $1,056 billion to
$1,645 billion per year, a 56% increase. During the same period, Chinese exports more than
doubled to $2,499 billion in 2019.
2. Companies engaged in international trade with imports and exports denominated in foreign
currencies are faced with the accounting issue of translating foreign currency amounts into
the company’s reporting currency and reporting the effects of changes in exchange rates in
the financial statements. Many of these companies also engage in hedging activities to
reduce the risk of changes in exchange rates. The accounting for derivative financial
instruments used to hedge foreign exchange risk can be quite complicated.
1-2
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
,Chapter 01 - Introduction to International Accounting
3. Financial reporting issues that result from foreign direct investment are (a) conversion of
foreign GAAP to parent company GAAP and (b) translation of foreign currency to parent
company reporting currency to prepare consolidated financial statements.
4. Two major taxation issues related to a foreign direct investment are (a) taxation of the
investee’s income by the host country in which the investment is located and (b) taxation of
the investee’s income by the investor’s home country. Companies with foreign direct
investments need to develop an expertise in the host country’s income tax rules, as well as
in the home country’s tax rules with respect to foreign source income.
5. Companies must make several decisions in designing the system for evaluating the
performance of foreign operations. Two of these are (a) deciding whether to evaluate
performance on the basis of foreign currency or parent company reporting currency and (b)
deciding whether to factor out of the performance measure those items over which the
foreign operation’s managers have no control.
6. Two reasons to have stock listed on the stock exchange of a foreign country are (a) to
obtain capital in that country, perhaps at a more reasonable cost than is available at home,
and (b) to have an “acquisition currency” for acquiring firms in that country through stock
swaps.
7. The United Nations, as an example, measures the multinationality of companies based on
the average of three factors: the ratio of foreign sales to total sales, the ratio of foreign
assets to total assets, and the ratio of foreign employees to total employees. Information
about foreign sales and foreign assets generally is provided in a company’s annual report.
Information about the number of foreign employees also might be provided in the annual
report or other publications through which a company provides information to the public.
8. A single set of accounting standards used worldwide would have the following benefits for
multinational corporations:
• Reduce the cost of preparing consolidated financial statements
• Reduce the cost of gaining access to capital in foreign countries
• Facilitate the analysis and comparison of financial statements of competitors and
potential acquisitions
Solutions to Exercises and Problems
1. Sony uses the following procedures to translate the foreign currency financial statements of
its foreign subsidiaries into Japanese yen:
• All assets and liabilities are translated at the year-end exchange rate
• All income and expense accounts are translated at the exchange rate prevailing on the
transaction date
• The resulting translation adjustment is included in accumulated other comprehensive
income (stockholders’ equity)
Sony uses the following procedures to translate foreign currency payables and receivables
into Japanese yen:
• All foreign currency receivables and payables are translated into Japanese yen at the
year-end exchange rate
• Changes in the Japanese yen value of foreign currency receivables and payables are
reported as gains and losses in income
1-3
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
, Chapter 01 - Introduction to International Accounting
2. Note: Since this book went to press, the Tax Foundation discontinued providing a
separate PDF file with corporate tax rate data on its “Corporate Tax Rates Around the
World” webpage. Instead, the webpage has a “Print this Page” button that pops out
on the right-hand side of the page. Students should be directed to “Print this Page”
and “Save to PDF.” Answers to complete this exercise can then be found in the
printed/saved PDF.
The answers below are based on the Tax Foundation’s “Corporate Tax Rates around the
World, 2022” publication (https://taxfoundation.org/publications/corporate-tax-rates-around-
the-world/) dated December 13, 2022.
a. Table 2 indicates the following countries have a tax rate larger than 35 percent:
Comoros, Puerto Rico, and Suriname.
b. Table 3 indicates the following countries have a tax rate smaller than 10 percent:
Barbados, Turkmenistan, and Hungary.
c. Table 4 provides a list of countries without a general corporate income tax including:
Bahamas, Bahrain, Cayman Islands, and United Arab Emirates.
d. Table 5 shows that South America has the largest average corporate income tax rate
(28.38%).
e. Table 5 shows that Asia has the smallest average corporate income tax rate (19.52%).
f. Table 5 indicates that the World average corporate income tax rate is 23.37%.
g. Table 6 shows that the corporate income tax rates in Italy and Switzerland are 27.81%
and 19.7%, respectively. Thus, all else equal, a multinational corporation would pay a
smaller amount of corporate income tax to the local government by establishing a
subsidiary in Switzerland rather than in Italy.
3.
a. The BRL pre-tax income becomes a USD pre-tax loss because Sales and Expenses are
translated at different exchange rates. Specifically, we can deduce that Sales are
translated at an exchange rate of USD 0.25 per 1 BRL [USD 2,500 / BRL 10,000] and
Expenses are translated at an exchange rate of USD 0.30 per 1 BRL [USD 2,850 / BRL
9,500].
Note: In Chapter 7, “Translation of Foreign Currency Financial Statements,” students will
learn that, under the temporal method of translation, sales revenue is translated at the
average for the current year exchange rate and depreciation expense is translated at the
exchange rate that existed when property, plant, and equipment was acquired. Thus,
when a foreign currency is falling in value against the U.S. dollar, and depreciation
represents a significant amount of a foreign operation’s expenses, it is possible for a
positive net income in foreign currency to be translated into a U.S. dollar net loss.
b. The question is whether Modular Office Corporation should use BRL income or USD
income to evaluate the performance of MOB’s president. There is no unequivocally
correct answer to this question. Issues that might be discussed include:
• What is the Brazilian subsidiary’s objective? For example, to generate profits that
can be distributed to U.S. stockholders? If so, then USD would be the logical
currency for evaluating performance.
• Does MOB’s president have the ability to “control” USD income, for example, by
hedging against changes in the USD per BRL exchange rate? If not, then it might not
make sense to evaluate MOB’s president’s performance on the basis of USD
income.
• Do the translation procedures that result in a USD pre-tax loss make economic
1-4
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
