Question #57

of 126 Hann Company is a U.S. multinational firm with operations in several foreign countries. Hann has a 100% stake in a French subsidiary. The foreign subsidiary's local currency has appreciated against the U.S. dollar over the latest financial statement reporting period. In addition, the French firm accounts for inventories using the first in, first out (FIFO) inventory cost-flow assumption. The gross profit margin as computed under the current rate method would most likely be: A) higher than the gross profit margin as computed under the temporal method. B) equal to the gross profit margin as computed under the temporal method. C) lower than the gross profit margin as computed under the temporal method. Wasson Brothers (WB) is a large U.S. based conglomerate with many subsidiaries in both the U.S. and abroad. One of WB's wholly-owned foreign subsidiaries, Kasamatsu Industries, is based in Japan and manufactures a hugely successful line of trading cards, toys, and other related products. All of Kasamatsu's operations and sales take place in Japan, and the corresponding transactions are denominated in Japanese yen. Additionally, Kasamatsu's books and records are all maintained in yen. WB reports its earnings in U.S. dollars. The history of the exchange rate between the dollar and the yen over the last two years is presented in the following table. Figures are presented in Yen/dollars. Yen/Dollar Exchange Rate December 31, 2005 150 December 31, 2004 130 2005 Average 140 2004 Average 120 Exchange rate on date that 2005 dividends were declared by Kasmatsu 145 Exchange rate on date of stock issue and acquisition of fixed assets. 100 Ashley Jameson is an analyst with Henderson-Wells, an investment banking firm in New York, and is the chief analyst covering WB. She believes that the enormous success of the trading cards has contributed greatly to WB's bottom line. However, she believes that this effect may be misstated in the company's financial statements because of the recent volatility in exchange rates. Many analysts at other major investment banking firms have been raising their ratings on WB because of the recent earnings growth. Jameson, however, wants to be absolutely certain that these results are accurate and fully attributable to Kasamatsu's hot new product and not a result of an exchange rate fluctuation. The following are the financial statements of Kasamatsu, stated in thousands of yen. Financial Statements for Year Ending December 31, 2005 (in thousands of yen) Statement of Income and Retained Earnings Sales 700,000 Expenses Cost of Goods Sold (COGS) 280,000 Depreciation 126,000 SG&A 77,000 Total Expenses 483,000 Earnings Before Taxes (EBT) 217,000 Income Tax Expense 98,000 Net Income 119,000 Retained Earnings: December 31, 2004 250,000 369,000 Dividends 58,000 Retained Earnings: December 31, 2005* 311,000 * Retained earnings on 12/31/2005 were US $2million Balance Sheet Assets Cash and receivables 60,000 Inventory 180,000 Land 200,000 Fixed assets 346,000 Total assets 786,000 Liabilities and stockholders' equity Liabilities 300,000 Capital stock 175,000 Retained earnings 311,000 Total liabilities and stockholders' equity 786,000