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Concept explainers
a.
Prepare in general journal form the entries necessary to record the preceding events.
a.
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Explanation of Solution
Currency Exchange rate: Currency exchange rate is the cost incurred to purchase one unit of currency with another currency. In other words, currency exchange rate is the “price” of buying one unit of foreign currency (say, UK pounds (£)) stated in terms of domestic currency (say US dollars).
Prepare
Date | Account title and Explanation | Post ref. | Amount $ | |
Debit | Credit | |||
October 28 | Inventory of Raw Materials | 1,890,000 | ||
Accounts payable – Company M | 1,890,000 | |||
(To record the purchase of 2,000 disk drives from Company M for ¥ 180,000,000 payable in 30 days when exchange rate is $0.0105 per yen ) | ||||
November 09 | Accounts receivable – Bank E | 997,425 | ||
Cost of goods sold | 518,000 | |||
Sales revenue | 997,425 | |||
Inventory of Finished goods | 518,000 | |||
(To record the sale and the cost of goods sold of 700 computers to Bank E, when current exchange rate is $1.65 per British pound) | ||||
November 27 | Accounts payable – Company M | 1,890,000 | ||
Cash | 1,836,000 | |||
Gain on fluctuations in foreign exchange rates (1) | 54,000 | |||
(To record the payment of $1,836,000 to Company M and to recognize the gain or loss on fluctuations in foreign exchanges) | ||||
December 02 | Inventory of Raw Materials | 843,600 | ||
Accounts payable – Company G | 843,600 | |||
(To record the purchase of 10,000 monitors from Company G for €1,200,000 payable in 60 days when exchange rate is $0.7030 per euro ) | ||||
December 09 | Cash | 985,335 | ||
Loss on fluctuations in foreign exchange rates (2) | 12,090 | |||
Accounts receivable – Bank E | 997,425 | |||
(To record the collection of £604,500 from Bank E when exchange rate was $1.63 per British pound) | ||||
December 11 | Accounts receivable – Company C | 14,250,000 | ||
Cost of goods sold | 7,400,000 | |||
Sales revenue | 14,250,000 | |||
Inventory of Finished goods | 7,400,000 | |||
(To record the sale and cost of goods sold of 10,000 computers to Company C when current exchange rate is $0.600 per Swiss franc) |
Table (1)
Explanation for journal entries:
October 28: To record the purchase of 2,000 disk drives from Company M for ¥ 180,000,000 payable in 30 days when exchange rate is $0.0105 per Japanese Yen:
Inventory of raw materials is an asset. The value is increased due to the credit purchases. Therefore, inventory of raw materials account is debited with $1,890,000.
Accounts Payable is a liability and it is increased due to the purchases made on credit. Therefore, credit Accounts Payable account with $1,890,000.
November 09: To record the sale and the cost of goods sold of 700 computers to Bank E:
Accounts receivable is an asset account. The value is increased due to the credit sales of $997,425. Thus, it is debited.
Cost of goods sold is a component of
Sales revenue is a component of
Inventory of finished goods is an asset and it is decreased by $518,000. Thus, it is credited.
November 27: To record the payment of $1,836,000 to Company M and to recognize the gain or loss on fluctuations in foreign exchanges:
Accounts Payable is a liability and it decreases by $1,890,000. Thus, it is debited.
Cash is an asset. The payment to accounts payable (liability) decreases the cash by $1,836,000 and hence, it is credited.
Gain on fluctuations in foreign exchange rates is a component of retained earnings and it is increased by $54,000. Thus, it is credited.
December 02: To record the purchase of 10,000 monitors from Company G for € 1,200,000 payable in 60 days when exchange rate is $0.7030 per Euro:
Inventory of raw materials is an asset. The value is increased due to the credit purchases. Therefore, inventory of raw materials account is debited with $843,600.
Accounts Payable is a liability and it is increased due to the purchases made on credit. Therefore, credit Accounts Payable account with $843,600.
December 09: To record the collection of £604,500 from Bank E when exchange rate was $1.63 per British pound:
Cash is an asset. The collections from accounts receivable (asset) increases the cash by $985,335 and hence, it is debited.
Loss on fluctuations in foreign exchange rates is a component of retained earnings and it is decreased by $12,090. Thus, it is debited.
Accounts receivable is an asset. Collections from accounts receivable (asset) decreases the accounts receivable by $997,425. Thus, it is credited.
December 11: To record the sale and cost of goods sold of 10,000 computers to Company C:
Accounts receivable is an asset account. The value is increased due to the credit sales of $14,250,000. Thus, it is debited.
Cost of goods sold is a component of retained earnings and it is decreased by $7,400,000. Thus, it is debited.
Sales revenue is a component of stockholders’ equity that increases the stockholders’ equity by $14,250,000. Thus, it is credited.
Inventory of finished goods is an asset and it is decreased by $7,400,000. Thus, it is credited.
Working note:
Compute the gain or loss on fluctuation in foreign exchange rate on November 27.
Compute the gain or loss on fluctuation in foreign exchange rate on December 09.
b.
Prepare the
b.
![Check Mark](/static/check-mark.png)
Explanation of Solution
Currency Exchange rate: Currency exchange rate is the cost incurred to purchase one unit of currency with another currency. In other words, currency exchange rate is the “price” of buying one unit of foreign currency (say, UK pounds (£)) stated in terms of domestic currency (say US dollars).
Prepare journal entries to record the adjusting entries.
Date | Account title and Explanation | Post ref. | Amount $ | |
Debit | Credit | |||
December 31 | Accounts payable – Company G | 3,600 | ||
Gain on fluctuations in foreign exchange rates (Refer Table (3)) | 3,600 | |||
(To record the adjusting entries at the end of the year) | ||||
December 31 | Loss on fluctuations in foreign exchange rates (Refer Table (4)) | 47,500 | ||
Accounts receivable – Company C | 47,500 | |||
(To record the adjusting entries at the end of the year) |
Table (2)
Explanation for journal entries:
December 31: To adjust balance of €1,200,000 account payable at the end of the year:
Accounts Payable is a liability and it decreases by $3,600. Thus, it is debited.
Gain on fluctuations in foreign exchange rates is a component of retained earnings and it is increased by $3,600. Thus, it is credited.
December 31: To adjust balance of SFr. 23,750,000 account receivable at the end of the year:
Loss on fluctuations in foreign exchange rates is a component of retained earnings and it is decreased by $47,500. Thus, it is debited.
Accounts Receivable is an asset and it decreases by $47,500. Thus, it is credited.
Working Notes:
Compute the adjusted balance of account payable – Company G at the year end.
Particulars | Amount |
Original account balance | $843,600 |
Adjusted balance as on December 31 | ($840,000) |
Required balance for adjustment (gain) | $3,600 |
Table (3)
Compute the adjusted balance of account receivable at the year end.
Particulars | Amount |
Original account balance | $14,250,000 |
Adjusted balance as on December 31 | ($14,202,500) |
Required balance for adjustment (loss) | $47,500 |
Table (4)
c.
Compute (to the nearest dollar) the unit sales price of computers in U.S. dollars in either the November 9 or December 11 sales transaction.
c.
![Check Mark](/static/check-mark.png)
Explanation of Solution
Currency Exchange rate: Currency exchange rate is the cost incurred to purchase one unit of currency with another currency. In other words, currency exchange rate is the “price” of buying one unit of foreign currency (say, UK pounds (£)) stated in terms of domestic currency (say US dollars).
Compute the unit sales price of computers in U.S. dollars.
Computation of unit sales price on November 09 | |
Particulars | Amount |
Sales price, 700 units, in British pounds | £604,500 |
Sales price, 700 units, in U.S. dollars | $997,425 |
Sales price per unit | $1,425 |
Computation of unit sales price on November 11 | |
Sales price, 10,000 units, in Swiss francs | SFr. 23,750,000 |
Sales price in U.S. dollars | $14,250,000 |
Sales price per unit | $1,425 |
Table (5)
Hence, the sales price of computers in U.S. dollars on November 09 and on November 11 is $1,425 per unit.
d.
Compute the exchange rate of Japanese Yen (¥) in US dollars ($) as on November 27.
d.
![Check Mark](/static/check-mark.png)
Explanation of Solution
Currency Exchange rate: Currency exchange rate is the cost incurred to purchase one unit of currency with another currency. In other words, currency exchange rate is the “price” of buying one unit of foreign currency (say, UK pounds (£)) stated in terms of domestic currency (say US dollars).
Compute the exchange rate of Japanese Yen (¥) in US dollars on November 27.
The exchange rate as on November 27 is $0.12784 per Japanese Yen (¥).
e.
Explain the manner by which Company WC could have hedged its position to reduce the risk of loss from exchange rate fluctuations on (1) foreign payable and (2) its foreign receivables.
e.
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Explanation of Solution
Hedging: This is a mechanism that is used to eliminate or minimize the risk of loss that is associated with the fluctuations in foreign exchange market. It is a strategy to offset the losses against the gains on the fluctuations of foreign exchange.
Company WC could have hedged to reduce the risk of loss from exchange rate fluctuations in the following ways:
(1) Foreign payable: Company WC could have hedged its position in foreign accounts payable by acquiring an equivalent amount of future contracts in these currencies that would mature at the same time when the liabilities would be paid. Such contracts are essentially receivables in foreign contracts. The losses or gains on the future contract can be used to offset the gain or losses on the foreign payable.
(2) Foreign receivable: Company WC’ position in its foreign receivables could be hedged by selling the future contracts. From the perspective of seller of a future contract, such contracts are a liability to pay off the fixed amount of foreign currency at a future date. Thus, Company WC would be creating foreign payables to offset its foreign receivables.
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Financial Accounting
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