Archive for March, 2015

The results for the US firms do not appear to be much different as again more than 90% hedge the transaction exposure from foreign currency denominated contractual commitments either intra-firm foreign repatriations (e.g. dividends, royalties, interest and payments on intracompany loans) are a special group of contractual commitments or anticipated transactions. Both in the US and in Germany more than one third of FX derivative using firms hedge these types of exposures frequently while another third does so sometimes. This practice implies that hedging decisions are taken from the perspective of parent company and its shareholders. It is interesting to notice that the new US draft-statement on accounting for derivatives now reflects this view and allows for hedge accounting for qualified hedges on intracompany transactions.
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The recommendation of the finance literature is not to worry about this type of exposure as it is not a cash flow effect and more specifically not to hedge it. From Table 3, we learn that the vast majority of US and German firms follows this recommendation. However, a considerable number of US companies do care as they declare to hedge translation exposure frequently (15.3%) or sometimes (14.1%). One might be surprised that German firms hedge this type of exposure less frequently. This result is not inconsistent with the particular emphasis placed by German companies on accounting earnings as discussed above in section III.B. It should be noted that in Germany corporate income taxes and dividend distributions are in principle not based on the consolidated group financial statements but on the individual financial statements of the parent company and its subsidiaries.
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Exposures Hedged

We already outlined in section III.A that the prime area of derivatives usage is FX management for both US and German firms. An important question to be considered is how companies define exposure. It is common in the international finance literature to distinguish between translation exposure, transaction exposure, and economic exposure.
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German GAAP currently include no specific accounting rules for derivative and hedging but require, on principle, the application of the general lower of cost or market rule to a derivative and to a hedged item. There is a controversy about the extent to which hedge accounting might be allowed with the ruling majority restricting this to effective micro hedges.10 Because of the favorable tax implications of this approach, German companies are not too uncomfortable with this situation. However, a considerable number of the largest German companies voluntarily disclose information about their use of derivatives in their annual reports along the lines of the recommendations of the FASB or the IASC.  Still only occasionally, but increasingly, they report about an extended use of hedge accounting for their more advanced macro or portfolio hedging approaches.
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