Johnston Co. Ltd. is a medium- sized Canadian company, incorporated in 20X1, whose shares are traded on the Toronto Stock Exchange. It began its operations as a processor and distributor of frozen herbs, but quickly branched out until it provided a full line of Canadian specialty foods. Some of these products were processed by Johnston itself, while others were processed by Johnston under contract with other Canadian companies.
The company’s strategic plan calls for steady growth in sales and earnings. Accordingly, expansion into the lucrative United States market in 20X7 is under serious consideration. A major concern is changes in the exchange rate of the Canadian and American dollar because the company has received very different predictions from various analysts with respect to this.
Johnston is considering the following proposals. The first proposal involves setting up sales offices in the United States with orders filled from Johnston’s Canadian warehouses. The sales offices would be responsible for sales, billing, and collections. All transactions would be in US dollars.
Alternatively, Johnston is considering establishing a wholly owned subsidiary in the United States to process and distribute a full line of specialty foods. It has not yet decided how to finance the purchase of the plant and equipment for this subsidiary.
The president has asked you, the controller, to prepare a report for possible use at a meeting of the board of directors. Specifically, he wants you to recommend which of the above proposals is preferable with respect to the impact of each on current and future income. He wants you to fully support your recommendation and to limit your discussion to foreign-currency translation issues, ignoring hedging and income tax considerations.
Prepare the report for the president.