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Free CFA® CFA-Level-II Exam Braindumps (page: 25)

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Gary Smith, CFA, has been hired lo analyze a specialty tool and machinery manufacturer, Whitmore Corporation (WMC). WMC is a leading producer of specialty machinery in the United States. At the end of 2006, WMC purchased York Tool Company (YTC), an Australian firm in a similar line of business. YTC has partially integrated its marketing functions within WMC but still maintains control of its operations and secures its own financing. Following is a summary of the income statement and balance sheet for YTC (in millions of Australian dollars - AUD) for the past three years as well as exchange rate data over the same period.






Smith has discovered that WMC has a small subsidiary in Ukraine. The Subsidiary follows IAS accounting rules and uses FIFO inventory accounting. The Ukrainian subsidiary was acquired ten years ago and has been fully integrated into WMC's operations. WMC obtains funding for the subsidiary whenever the company finds profitable investments within Ukraine or surrounding countries. According to forecasts from economists, the Ukrainian currency is expected to depreciate relative to the U.S. dollar over the next few years. Local currency prices are forecasted to remain stable, however.

One of the managers at WMC asks Smith to analyze a third subsidiary located in India. The manager has explained that real interest rates in India over the last three years have been 2.00%, 2.50%, and 3.00%, respectively, while nominal interest rates have been 34.64%, 29.15%, and 25.66%, respectively. Smith requests more time to analyze the Indian subsidiary.

Determine whether the translation method appropriate for consolidating the Ukrainian subsidiary's financial statements would allow WMC to recognize unrealized and realized gains in nonmonetary assets owned by the subsidiary.

  1. WMC would only be able to recognize realized gains.
  2. WMC would only be able to recognize unrealized gains.
  3. WMC would be able to recognize unrealized and realized gains

Answer(s): A

Explanation:

The appropriate translation method for the Ukrainian subsidiary is the temporal method since the functional currency is the U.S. dollar (the parent's currency). Under the temporal method, realized gains or losses on nonmonetary assets are recognized in operating profits through depreciation and cost of goods sold. Unrealized gains or losses in nonmonetary assets are not recognized under the temporal method. (Study Session 6, LOS 23-c)



Gary Smith, CFA, has been hired lo analyze a specialty tool and machinery manufacturer, Whitmore Corporation (WMC). WMC is a leading producer of specialty machinery in the United States. At the end of 2006, WMC purchased York Tool Company (YTC), an Australian firm in a similar line of business. YTC has partially integrated its marketing functions within WMC but still maintains control of its operations and secures its own financing. Following is a summary of the income statement and balance sheet for YTC (in millions of Australian dollars - AUD) for the past three years as well as exchange rate data over the same period.







Smith has discovered that WMC has a small subsidiary in Ukraine. The Subsidiary follows IAS accounting rules and uses FIFO inventory accounting. The Ukrainian subsidiary was acquired ten years ago and has been fully integrated into WMC's operations. WMC obtains funding for the subsidiary whenever the company finds profitable investments within Ukraine or surrounding countries. According to forecasts from economists, the Ukrainian currency is expected to depreciate relative to the U.S. dollar over the next few years. Local currency prices are forecasted to remain stable, however.

One of the managers at WMC asks Smith to analyze a third subsidiary located in India. The manager has explained that real interest rates in India over the last three years have been 2.00%, 2.50%, and 3.00%, respectively, while nominal interest rates have been 34.64%, 29.15%, and 25.66%, respectively. Smith requests more time to analyze the Indian subsidiary.

Which of the following statements regarding the consolidation of WMC's Ukrainian subsidiary for the next year is least likely correct? As compared to the temporal method, the Ukrainian subsidiary's translated:

  1. net income before translation gains or losses would be higher using the all-current method.
  2. debt to equity ratio would be higher using the all-current method.
  3. gross profit margin would be lower using the all-current method.

Answer(s): C

Explanation:

Under both the all-current and temporal methods, the revenues for the Ukrainian subsidiary would be translated using the average rate. Cost of goods sold (COGS) would be translated using the historical rate for the temporal method and the average rate for the all-current method. Note that because local currency prices are expected to be constant in the Ukraine, there will be no difference between LIFO and FIFO since all beginning, purchased, sold, and ending inventory will have the same cost. When a currency is depreciating, the COGS based on historical cost (temporal method) will be higher than COGS translated at the average rate (all-current method) since the average rate will incorporate the historical exchange rate and the most recent (depreciated) exchange rate, decreasing the COGS. For instance, if COGS in the local currency is 10 and the historical and average exchange rates are 1 and 1.5 (local currency per reporting currency), then COGS under the temporal method will be 10 and under the all-current method will be 6.67.
Since translated sales are the same under both methods, gross profit and the gross profit margin will be higher under the all-current method. (Study Session 6, LOS 23.e)



Gary Smith, CFA, has been hired lo analyze a specialty tool and machinery manufacturer, Whitmore Corporation (WMC). WMC is a leading producer of specialty machinery in the United States. At the end of 2006, WMC purchased York Tool Company (YTC), an Australian firm in a similar line of business. YTC has partially integrated its marketing functions within WMC but still maintains control of its operations and secures its own financing. Following is a summary of the income statement and balance sheet for YTC (in millions of Australian dollars - AUD) for the past three years as well as exchange rate data over the same period.







Smith has discovered that WMC has a small subsidiary in Ukraine. The Subsidiary follows IAS accounting rules and uses FIFO inventory accounting. The Ukrainian subsidiary was acquired ten years ago and has been fully integrated into WMC's operations. WMC obtains funding for the subsidiary whenever the company finds profitable investments within Ukraine or surrounding countries. According to forecasts from economists, the Ukrainian currency is expected to depreciate relative to the U.S. dollar over the next few years. Local currency prices are forecasted to remain stable, however.

One of the managers at WMC asks Smith to analyze a third subsidiary located in India. The manager has explained that real interest rates in India over the last three years have been 2.00%, 2.50%, and 3.00%, respectively, while nominal interest rates have been 34.64%, 29.15%, and 25.66%, respectively. Smith requests more time to analyze the Indian subsidiary.

Which of the following statements related to the consolidation of V/MC's Indian subsidiary is least likely correct?

  1. The Indian economic environment meets the criteria to be classified as a hyperinflationary economy.
  2. IAS standards would allow WMC to translate the inflation-indexed value of nonmonetary assets of the Indian subsidiary at the current exchange rate.
  3. WMC can reduce potential translation losses from the Indian subsidiary by issuing debt denominated in (US) currency and purchasing ^\KGd assets for the subsidiary.

Answer(s): C

Explanation:

US. accounting standards define a hyperinflationary economy as one in which the three-year cumulative inflation rate exceeds 100%. The Indian economy can be characterized as hyperinflationary. The inflation rate over the past three years can be calculated as follows:

year 1 inflation = [(I + 0.3464) / (1 + 0.020)] - 1 = 32%
year 2 inflation = [(I + 0.2915) / (1 + 0.025)1 - 1 = 26%
year 3 inflation = [(1 + 0.2566) / (1 + 0.030)] - 1 = 22%
cumulative three-year inflation = (1.32)(1.26)(1.22) - 1 = 103%

US. accounting standards allow the use of the temporal method, with the functional currency being the parents reporting currency, when a foreign subsidiary is operating in a hyperinflationary environment. IAS accounting standards allow the parent to translate an inflation-adjusted value of the nonmonetary assets and liabilities of the foreign subsidiary at the current inflation rate, removing most of the effects of high inflation on the value of the nonmonetary assets and liabilities in the reporting currency. In a hyperinflationary environment, the parent company can reduce translation losses by reducing its net monetary assets or increasing its net monetary liabilities. In order to do this, the parent should issue debt denominated in the subsidiary's local currency and invest the proceeds in fixed assets for the subsidiary to use in its operations. (Study Session 6, LOS 23-0



Lauren Jacobs, CFA, is an equity analyst for DF Investments. She is evaluating Iron Parts Inc. Iron Parts is a manufacturer of interior systems and components for automobiles. The company is the world's second largest original equipment auto parts supplier, with a market capitalization of $1.8 billion. Based on Iron Parts's low price-to-book value ratio of 0.9* and low price-to-sales ratio of 0.15x, Jacobs believes the stock could be an interesting investment. However, she wants to review the disclosures found in the company's financial footnotes. In particular, Jacobs is concerned about Iron Parts's defined benefit pension plan. The following information for 2007 and 2008 is provided.



Iron Parts has adopted SFAS No. 158, Employers' Accounting for Defined Benefit Pensions and Other Postretirement Plans.
Jacobs wants to fully understand the impact of changing pension assumptions on Iron Parts's balance sheet and income statement. In addition, she would like to compute Iron Parts's economic pension expense.
As of December 31, 2008, the funded status of Iron Parts's pension plan was:

  1. $175 million underfunded.
  2. $240 million underfunded.
  3. $ 183 million overfunded.

Answer(s): B

Explanation:

Funded status equals fair value of plan assets minus PBO (395 - 635 = -240). (Study Session 6, LOS 22.c,f)



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