CHAPTER 7

1. According to the World Trade Organization, what was the size of international
trade in 2011?

A. $7,000,000,000 (7 billion dollars)

B. $70,000,000,000 (70 billion dollars)
C. $37,000,000,000 (37 billion dollars)
D. $18,000,000,000,000 (18 trillion dollars)

2. In the years between 1990 and 2001 when global gross domestic product rose
27%, what was the growth in global exports?

A. 25%
B. 75%
C. 35%
D. 50%

3. What is a "foreign exchange rate?"

A. The price to buy a foreign currency

B. The price to buy foreign goods
C. The difference between the price of goods in a foreign currency and the price
in a domestic currency
D. The cost to hold all monetary assets in a single currency

4. Which of the following statements is true about the Euro?

A. It is the currency used by all countries in the European Union.

B. It is pegged to the U.S. dollar.
C. It is the currency required to be used in financial reporting under international
accounting standards.
D. None of the statements above is true.

5. A bank exchanging foreign currency makes its profit in what manner?

A. On the difference between the spot rate and the foreign rate
B. A bank is forbidden, by law, to charge a premium in foreign currency
exchange
C. On the present value of the forward rate discounted to the date an option is
purchased
D. On the difference between the buying and selling rates

6. King's Bank, a British company, purchases market research services from Harris
Interactive, a U.S. company. As per the terms of the contract, payment is to be
made three months later in U.S. dollars when the report is delivered. How would
 King's Bank like to see the exchange rate move, assuming it isn't hedging the
transaction?

A. It hopes that the U.S. dollar appreciates in value against the British pound.
B. It hopes that the British pound appreciates in value against the U.S.
dollar.
C. It makes no difference, since they are the customer and the sale takes place
in the U.K.
D. It hopes that there is no change between the spot rate and the forward rate.

7. Why was there very little fluctuation in the foreign exchange rate in the period
1945-1973?
A. This was a period when the world economy was very stable.
B. There was very little growth in the world economy between 1945 and 1973
C. Countries linked their currency to the U.S. dollar, which was backed by
gold reserves.
D. Most currencies were pegged to the British pound, which could be converted
to sterling silver.

8. The central bank of Country X buys and sells its own currency to ensure that the
currency is always exchanged in a ratio of 2:1 with the currency of Country Y.
What can we conclude about these two currencies?

A. Country X is using the Euro.

B. Country X has pegged its currency to the currency of Country Y.
C. Country X has an undesirable currency.
D. Country X allows its currency to float relative to the currency of Country Y.

9. When a currency is allowed to increase or decrease freely according to market

forces, the currency is said to:

A. be pegged to another currency.

B. be less valuable.
C. have independent float.
D. devalue.

10. For an upcoming trip, Pat wants to buy Euros at the local bank when the current
exchange rate quoted on [Link] was $1.563 per 1. What should Pat plan
to pay for 1,000?

A. exactly $1,563
B. more than $1,563
C. about $640
D. less than $640
11. The number of Japanese yen (¥) required today to buy one U.S. dollar ($) today
is called:

A. the spot rate.

B. the exact rate.
C. the forward rate.
D. the retail rate.

12. The number of U.S. dollars ($) today to buy one U.K. pound (£) six months from
now is called:

A. the spot rate.

B. the exact rate.
C. the forward rate
D. the prime rate.

13. What is foreign exchange risk exposure?

A. The possibility of a loss because of changes in the value of a foreign

currency
B. Losses caused by paying for purchased goods in a foreign currency
C. Losses caused by receiving payment in a foreign currency for goods sold
D. All of the above

14. What is "asset exposure" to foreign exchange risk?

A. The possibility that an asset denominated in domestic currency will decline in

value because of changes in the foreign exchange rate
B. The possibility that an asset denominated in a foreign currency will
change in value because of a change in the foreign exchange rate
C. The loss resulting from an import purchase when a foreign currency
appreciates
D. The loss resulting from an import purchase when a foreign currency
depreciates

15. What is a foreign currency transaction?

A. It is another name for an international transaction.

B. It is a transaction that involves payment at a date sometime in the future.
C. It is a business deal denominated in a currency other than a company's
domestic currency.
D. It is an economic event measured in a currency other than U.S. dollars.

16. Under U.S. GAAP, what method is required to account for foreign currency
transactions?
 A. A one-transaction perspective must be used.
B. The two-transaction perspective must be used.
C. A sale is not recorded until payment is received and converted to U.S. dollars.
D. A sale is not recorded until payment is received in the foreign currency.

17. Under International Accounting Standards Board rules, what method is required
to account for foreign currency transactions?

A. A one-transaction perspective must be used.

B. The two-transaction perspective must be used.
C. A sale is not recorded until payment is received and converted to U.S. dollars.
D. A sale is not recorded until payment is received in the foreign currency.

18. Why must the two-transaction perspective be used for recording foreign currency
transactions under U.S. GAAP?

A. The two-transaction perspective is required under IFRS.

B. U.S. GAAP requires conservatism in financial reporting.
C. All other methods are excessively complicated to use and therefore obscure
the essence of the transaction.
D. Management made two decisions: one to sell and another to extend
credit in a foreign currency.

19. Under U.S. GAAP, foreign exchange losses should be recorded by:

A. debiting "Foreign Exchange Loss".

B. crediting "Foreign Exchange Loss".
C. debiting "Retained Earnings".
D. debiting "Sales Revenue".

20. Under U.S. GAAP, what is the proper treatment of unrealized foreign exchange
losses?

A. They should be deferred on the Balance Sheet until the cash is paid.
B. They should not be recognized until cash is received to complete the
transaction.
C. They should be recorded on the Income Statement in the period the
exchange rate changes.
D. They should be deferred on the Balance Sheet until an offsetting foreign
exchange gain is realized.

21. Under U.S. GAAP, what is the proper treatment of unrealized foreign exchange
gains?

A. They should be deferred on the Balance Sheet until cash is received.

B. The principle of conservatism requires that they should never be recognized.
 C. They should not be recorded until cash is received and the exchange
transaction is completed.
D. They should be recognized in income on the date the exchange rate
changes.

22. Why is the accrual method of accounting for unrealized foreign exchange gains
sometimes criticized?

A. Foreign exchange gains almost never occur, so there is no reason to have an

accounting standard for it.
B. It violates the principle of conservatism.
C. It is not objective.
D. There is no reliable method for measuring unrealized foreign exchange gains.

23. How should U.S. companies record receivables and payables from international
trade that are denominated in foreign currencies?

A. All assets and liabilities of U.S. companies must be recorded in U.S. dollars.
B. Conservatism would dictate that liabilities should be recorded in the currency
in which they are payable, but assets should be recorded in U.S. dollars,
regardless of what currency will be received.
C. There should be separate receivable and payable accounts for each
currency that is used by the company.
D. The company should choose any one currency to use for recording receivable
and payables so that there is consistency in the accounts.

24. Northland Corporation recorded £1,000,000 in Accounts Receivable for sales to

customers in the United Kingdom and recorded Accounts Payable of 2,000,000
Yuan for product purchased from China. If Northland recorded a foreign currency
exchange loss on its receivables and a foreign currency gain on its payables,
what must have happened to each currency?

A. Yuan appreciated, Pound depreciated

B. Yuan depreciated, Pound appreciated
C. Yuan appreciated, Pound appreciated
D. Yuan depreciated, Pound depreciated

25. A noncancelable sales order that specifies foreign currency price and date of
delivery is known as a:

A. hedge.
B. foreign currency firm commitment.
C. forward contract.
D. put option.
26. Amazing Corporation, a U.S. enterprise, sold product to a customer in Wales on
October 1, 20x1 for £100,000 with payment required on April 1, 20x2. Relevant
exchange rates are:

The discount factor corresponding to the company's incremental borrowing rate

for 6 months is [Link] that Amazing Corporation does not hedge this
transaction, what is the amount of exchange gain or loss that it should show on
its December 31, 20x1 income statement?

A. Loss $1,000
B. Loss $2,000
C. Gain $1,000
D. Gain $1,900

27. Assume that Amazing Corporation enters a forward contract on October 1, 20x1
to sell £100,000 six months hence, on April 1, 20x2. How should Amazing
Corporation report the forward contract on its December 31, 20x1 financial
Statements?

A. Asset $1,950
B. Liability $1,950
C. Asset $1,000
D. Asset $950

28. What term is used to describe the circumstances under which Amazing
Corporation is entering the forward contract?

A. Hedge of an unrecognized foreign currency firm commitment

B. Hedge of a recognized foreign-currency-denominated asset
C. Hedge of a forecast foreign-currency-denominated transaction
D. Hedge of net investment in foreign operations

29. On November 1, 20x1 Zamfir Company, a U.S. corporation, purchased minerals

from a Russian company for 2,000,000 rubles, payable in 3 months. The relevant
exchange rates between the U.S. and Russian currencies are given:

The company's incremental borrowing rate provides a discount rate of 0.975 for
three months. If Zamfir does not attempt to hedge this transaction, what is the
gain or loss that should be shown on the company's December 31, 20x1 financial
statements?

A. $22,000 loss
B. $21,450 loss
C. $8,000 gain
D. $7,800 gain
30. On November 1, 20x1 Zamfir Company, a U.S. corporation, purchased minerals
from a Russian company for 2,000,000 rubles, payable in 3 months. The relevant
exchange rates between the U.S. and Russian currencies are given:

The company's incremental borrowing rate provides a discount rate of 0.975 for
three months. Assume that on November 1, 20x1 Zamfir Company enters a
forward contract to buy 2,000,000 rubles on February 1, 20x2. What is the fair
value of the forward contract on December 31, 20x1?

A. $8,000
B. $7,800
C. $22,000
D. $8,200

31. On December 1, 20x1 Pimlico made sales to a customer in India and recorded
Accounts Receivable of 10,000,000 rupees. The customer has until March 1,
20x2 to pay. On December 1, 20x1, Pimlico paid $500 for a put option to sell
rupees at a strike price of $2.30 per 100 rupees on March 1, 20x2, which was the
spot rate on December 1, 20x1. On December 31, 20x1, the spot rate was $2.80
per 100 rupees and the option premium was $0.004 per 100 [Link] is the
fair value of the option on December 1, 20x1?

A. $0
B. $500
C. $400
D. $10,000

32. On December 1, 20x1 Pimlico made sales to a customer in India and recorded
Accounts Receivable of 10,000,000 rupees. The customer has until March 1,
20x2 to pay. On December 1, 20x1, Pimlico paid $500 for a put option to sell
rupees at a strike price of $2.30 per 100 rupees on March 1, 20x2, which was the
spot rate on December 1, 20x1. On December 31, 20x1, the spot rate was $2.80
per 100 rupees and the option premium was $0.004 per 100 [Link] is the
fair value of the option on December 31, 20x1?

A. $0
B. $500
C. $400
D. $10,000

33. On December 1, 20x1 Pimlico made sales to a customer in India and recorded
Accounts Receivable of 10,000,000 rupees. The customer has until March 1,
20x2 to pay. On December 1, 20x1, Pimlico paid $500 for a put option to sell
rupees at a strike price of $2.30 per 100 rupees on March 1, 20x2, which was the
spot rate on December 1, 20x1. On December 31, 20x1, the spot rate was $2.80
 per 100 rupees and the option premium was $0.004 per 100 [Link] is the
foreign currency exchange gain or loss on December 31, 20x1?

A. $50,000 loss
B. $50,000 gain
C. $10,000 gain
D. $10,000 loss

34. On December 1, 20x1 Pimlico made sales to a customer in India and recorded
Accounts Receivable of 10,000,000 rupees. The customer has until March 1,
20x2 to pay. On December 1, 20x1, Pimlico paid $500 for a put option to sell
rupees at a strike price of $2.30 per 100 rupees on March 1, 20x2, which was the
spot rate on December 1, 20x1. On December 31, 20x1, the spot rate was $2.80
per 100 rupees and the option premium was $0.004 per 100 [Link] the spot
rate on March 1, 20x2 was $2.45 per 100 rupees, what is the foreign currency
exchange gain or loss that should be recorded that day?

A. $15,000 gain
B. $15,000 loss
C. $35,000 gain
D. $35,000 loss

35. When two parties from different countries enter into a transaction:

A. the currency to be used for settling the transaction is set by the government.
B. a third country's currency must be used to denominate the transaction.
C. the two parties are free to decide the currency that should be used to
settle the transaction.
D. the domestic currency of the buyer must be used to settle the transaction.

36. What has occurred when one company arranges to buy a foreign currency
sometime in the future, at an exchange rate quoted today?

A. The company has purchased a foreign currency option.

B. The company has entered a forward contract.
C. The currency has been devalued.
D. None of the above

37. What has occurred when one company purchases the right to buy a foreign
currency sometime in the future at an exchange rate quoted today?

A. The company has acquired a call option.

B. The company has entered a forward contract.
C. The currency has appreciated relative to the dollar.
D. The company has acquired a put option.
38. What is a "strike price?"

A. The exchange rate that is used to buy a foreign currency today

B. The price that will be paid for goods in a forward contract
C. The exchange rate that will be used if a foreign currency option is
executed
D. The difference between the wholesale rate and the retail rate for foreign
currency exchange

39. What term is used for an option with a positive intrinsic value?

A. Put option
B. Over the counter
C. In the money
D. Call option

40. What is the intrinsic value of a foreign currency option?

A. he difference between the spot rate and the strike price

B. The gain that could be realized if the option was exercised immediately
C. The chance that a currency will rise over time to make the option in the money
D. The difference between a call option and a put option

41. On 1 January, 2015, Hikers Inc., a U.S.-based company, borrowed £200,000 on

a two-year note at a per annum interest of 4.5%. The spot rate on this day was
$1.65 per pound. The spot rate on 31 December, 2015, was $1.64 per pound.
The journal entries to account for this foreign currency borrowing will include:

A. a debit to Cash for $200,000 on January 1, 2015.

B. a credit to Notes Payable for $330,000 on December 31, 2015.
C. a debit to Foreign Exchange Loss for $90 on December 31, 2015.
D. a debit to Interest Expense for $14,760 on December 31, 2015.

42. What is the primary difference between a cash flow hedge and a fair value
hedge?

A. The fair value hedge must completely offset the variability in the cash flow
from the foreign currency receivable or payable.
B. The cash flow hedge can only be used to offset potential foreign currency
losses on accounts receivable.
C. The cash flow hedge must completely offset the variability in cash flow
from the foreign currency receivable or payable.
D. The fair value hedge can only be used to offset the variability in cash flow from
long-term fixed assets related to foreign currency fluctuations.
43. Which of the following statements is true about hedge accounting under U.S.
GAAP?

A. Companies may choose whether to account for derivatives as cash flow

hedges or fair value hedges.
B. If a derivative qualifies as a cash flow hedge, the hedging instrument is
adjusted to fair value on each balance sheet date.
C. If a derivative is elected by the company not to be designated as a cash flow
hedge, it must be accounted for as such.
D. Hedge accounting is only advantageous when a foreign currency depreciates
between the transaction date and the payment date.

44. Under U.S. GAAP, which of the following conditions must be met to qualify for
hedge accounting?

A. There must be formal documentation of the hedging relationship.

B. A derivative must be used specifically to hedge fair value exposure or cash
flow exposure.
C. The hedge must be effective.
D. All of the above must be met in order to qualify for hedge accounting.

45. What is "hedge accounting?"

A. Any record keeping related to purchase, sale, or valuation of derivatives.

B. Recording options and other derivatives on the Balance Sheet.
C. Matching gains or losses from hedging with losses or gains from the
risk being hedged.
D. Using multiple accounting methods to offset the effect of foreign currency
exchange.

46. What kind of exposure exists for recognized foreign currency assets and
liabilities?

A. Fair value exposure

B. Cash flow exposure
C. Both fair value exposure and cash flow exposure
D. Neither fair value exposure nor cash flow exposure

47. What kind of exposure exists for foreign currency firm commitments?

A. Fair value exposure

B. Cash flow exposure
C. Both fair value exposure and cash flow exposure
D. Neither fair value exposure nor cash flow exposure
48. What is the requirement for reporting derivatives under international accounting
standards and U.S. GAAP?

A. They may be shown on the balance sheet or they may be treated as off-
balance sheet investments.
B. They must be shown on the balance sheet at fair value.
C. They must be shown on the balance sheet at historical cost.
D. They may be shown on the balance sheet at historical cost or at net realizable
value.

49. What information is needed to determine the fair value of a foreign currency
forward contract?

A. The forward rate at the date the contract was entered

B. The current forward rate for a contract that matures on the same dates as the
forward contract that was entered into
C. A discount rate to determine the present value of the contract
D. All of the above information is needed

50. How is the fair value of a foreign currency option calculated?

A. By using the Box-Jenkins technique

B. Using the modified Black-Scholes pricing model
C. Through an arms-length transaction
D. Using quotes given daily in the Wall Street Journal

51. Under U.S. GAAP, where are changes in the fair value of derivatives reported?

A. As part of "Accumulated Other Comprehensive Income" on the Balance

Sheet
B. They are not recognized until the options are exercised
C. Retained Earnings
D. None of the above

52. Which of the following is done when accounting for a cash flow hedge, but is not
done when accounting for a fair value hedge?

A. The hedged asset or liability is adjusted to fair value.

B. Foreign exchange gains or losses on the hedged asset or liability are recorded
in net income.
C. Increases or decreases in a derivative's fair value are recorded in
accumulated other comprehensive income.
D. Gains or losses resulting from adjusting the fair value of a derivative are
recorded in net income.
53. How should discounts or premiums on forward contracts be treated if the
derivative is hedging a foreign-currency-denominated asset?

A. Carried on the balance sheet until the contract is completed

B. Included in income in the period the derivative is acquired
C. Amortized over the life of the forward contract
D. None of the above

54. Under U.S. GAAP, what method of amortizing discounts or premiums on forward
contracts must be used?

A. Weighted average method or accelerated method

B. Sum of digit method only
C. Effective interest rate method or straight line method
D. Straight line method only

55. On May 1, 20x1, Ustar purchased a put option to sell £50,000 on April 30, 20x2
at a strike price equal to $2, which was the spot rate on May 1, 20x1. Ustar paid
a premium of $0.01 per pound. How should the option be recorded on May 1,
20x1?

A. Debit Foreign Currency Option for $100,500.

B. Credit Foreign Currency Option for $100,500.
C. Debit Foreign Currency Option for $500.
D. Debit Hedge Expense for $500.

56. In hedge accounting, which of the following exposure should be hedged by

foreign currency derivative?

A. Temporal exposure
B. Fair value exposure
C. Derivative exposure
D. Forward contract exposure

57. When accounting for forward contracts, what is meant by the term "executory
contract"?

A. No cash changes hands

B. The CEO of the company is the only one authorized to engage in the contract
C. There must be a price paid for the option
D. The contract is valid if one of the parties sign it

58. Excel Sources Inc. is a U.S. incorporated company. Due to change in exchange
rate, it receives $150,000 as payment against a sale of $165,000. Under the two-
transaction perspective:
 A. no journal entry will be prepared on the date of sale.
B. the sale will be recorded at $150,000 on the date of sale.
C. foreign exchange loss will be recorded for $15,000.
D. Accounts Receivable will be debited for $15,000 on the date of payment.

59. Which of the following statements is true of the relationship between foreign
currency transactions, exchange rate changes, and foreign exchange gains and
losses?

A. In an export sales, depreciation of the foreign currency causes a foreign

exchange gain.
B. In an import purchase, appreciation of the foreign currency causes a foreign
exchange gain.
C. In an import purchase, depreciation of the foreign currency causes a foreign
exchange loss.
D. In an export sales, appreciation of the foreign currency causes a foreign
exchange gain.

60. Which of the following statements is true of intrinsic value of options?

A. When the option strike price is more than the spot rate, the intrinsic value is
zero.
B. When the option strike price is equal to the spot rate, the intrinsic value is
positive.
C. When the option strike price is less than the spot rate, the intrinsic value
is zero.
D. When the option strike price is more than the spot rate, the intrinsic value is
negative.