International Manufacturing Company (IMC) is a large, Canadian-based corporation with worldwide operations. IMC has issued debt instruments in Swiss francs, euros, and U.S. dollars to take advantage of low interest rates. All these financing arrangements were completed on a fixed-interest-rate basis. The Canadian dollar has weakened considerably in the past few years, and as a result, IMC has accrued substantial foreign exchange losses on the debt instruments. These losses have seriously impaired IMC’s ability to report increased earnings during the last few years, in spite of its successful operations.
IMC’s investment banker has recommended the following alternatives to management:
1. IMC considers using the currency-swap market to minimize losses on its debt. IMC would enter into an agreement with a third party, whereby IMC agreed to pay the obligation of the third party’s debt in Canadian dollars in exchange for the third party agreeing to pay the obligation of IMC’s foreign debt. Pursuing this option would entail an additional cost if the investment banker were required to guarantee the payment of the foreign debt.
2. IMC considers buying back the Swiss franc, euro, and U.S.-dollar bonds on the bond market and refinancing them now. Interest rates for all currencies are much higher at present than at the time that these bonds were issued.
Management has asked you, the CA, to prepare a report that discusses the accounting and financial reporting implications of each of the investment banker’s recommendations. Management is considering a third option as well: using the existing debt to hedge forecasted sales of IMC products in these foreign countries.
Management also wants to know the accounting and financial reporting implications of this option.
Required:
Prepare the report.