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Chapter
19 Outline
Chapter Summary
This chapter focused on financial accounting within the
multinational firm. We explained why accounting practices and standards
differ from country to country and surveyed the efforts under way to harmonize
countries' accounting practices. We discussed the rationale behind consolidated
accounts and looked at currency translation. We reviewed several issues
related to the use of accounting-based control systems within international
businesses. This chapter made the following points:
- Accounting is the language of business: the means by which firms
communicate their financial position to the providers of capital and
to governments (for tax purposes). It is also the means by which firms
evaluate their own performance, control their expenditures, and plan
for the future.
- Accounting is shaped by the environment in which it operates. Each
country's accounting system has evolved in response to the local demands
for accounting information.
- Five main factors seem to influence the type of accounting system
a country has: (i) the relationship between business and the providers
of capital, (ii) political and economic ties with other countries, (iii)
the level of inflation, (iv) the level of a country's development, and
(v) the prevailing culture in a country.
- National differences in accounting and auditing standards have resulted
in a general lack of comparability in countries' financial reports.
- This lack of comparability has become a problem as transnational
financing and transnational investment have grown rapidly in recent
decades (a consequence of the globalization of capital markets). Due
to the lack of comparability, a firm may have to explain to investors
why its financial position looks very different on financial reports
that are based on different accounting practices.
- The most significant push for harmonization of accounting standards
across countries has come from the International Accounting Standards
Committee (IASC). So far, the IASC's success, while noteworthy, has
been limited.
- Consolidated financial statements provide financial accounting information
about a group of companies that recognizes the companies' economic interdependence.
- Transactions among the members of a corporate family are not included
on consolidated financial statements; only assets, liabilities, revenues,
and expenses generated with external third parties are shown.
- Foreign subsidiaries of a multinational firm normally keep their
accounting records and prepare their financial statements in the currency
of the country in which they are located. When the multinational prepares
its consolidated accounts, these financial statements must be translated
into the currency of its home country.
- Under the current rate translation method, the exchange rate at the
balance sheet date is used to translate the financial statements of
a foreign subsidiary into the home currency. This has the drawback of
being incompatible with the historic cost principle.
- Under the temporal method, assets valued in a foreign currency are
translated into the home currency using the exchange rate that existed
when the assets were purchased. A problem with this approach is that
the multinational's balance sheet may not balance.
- In most international businesses, the annual budget is the main instrument
by which headquarters controls foreign subsidiaries. Throughout the
year, headquarters compares a subsidiary's performance against the financial
goals incorporated in its budget, intervening selectively in its operations
when shortfalls occur.
- Most international businesses require all budgets and performance
data within the firm to be expressed in the corporate currency. This
enhances comparability, but it distorts the control process if the relevant
exchange rates change between the time a foreign subsidiary's budget
is set and the time its performance is evaluated.
- According to the Lessard - Lorange model, the best way to deal with
this problem is to use a projected spot exchange rate to translate both
budget figures and performance figures into the corporate currency.
- Transfer prices also can introduce significant distortions into the
control process and thus must be considered when setting budgets and
evaluating a subsidiary's performance.
- Foreign subsidiaries do not operate in uniform environments, and
some environments are much tougher than others. Accordingly, it has
been suggested that the evaluation of a subsidiary should be kept separate
from the evaluation of the subsidiary manager.
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