On 31 December 20x4, Continental Ltd, whose functional currency is the dollar ($), incorporated a wholly owned foreign subsidiary, Four Seas Corporation, which purchased the assets of another company that was under liquidation. The expenditure was financed by share capital and a loan of FC 6,500,000 from a local bank. The statement of financial position of Four Seas Corporation as at 31 December 20x4, stated in local currency (the FC), is shown below.

Four Seas Corporation’s main business is the sub-assembly of components using materials provided by Continental Ltd. The sub-assembled components are then returned to Continental Ltd for the manufacture of final products. All other resources such as labor, indirect materials, and services are sourced locally. Four Seas Corporation adopts FIFO inventory accounting. Relevant exchange rates are given below:

Required
1. Translate the financial statements of Four Seas Corporation for the year ended 31 December 20x5 in each of the following scenarios:

(a) The functional currency of Four Seas Corporation is the local currency

(b) The functional currency of Four Seas Corporation is the dollar

2. Explain the difference in the translation results (translation gain or loss) in Scenario 1 and Scenario 2. (Computation of translation differences is required as part of the answer to this question.)
3. Compare each of the following ratios for Four Seas Corporation in the two scenarios:

(a) Gross profit margin ratio

(b) Operating profit margin ratio (defined as the ratio of profit from operations before tax, non-operating items and exchange differences to sales)

(c) Net profit margin

(d) Return on asset

(e) Return on equity Briefly explain how the movements in exchange rates affected the above ratios in the two scenarios.

Transcribed Image Text:

Fixed assets (at cost). Stocks (at cost).... Cash... Share capital. Long-term loan. The financial statements of Four Seas Corporation for the year ended 31 December 20x5 are as follows: FOUR SEAS CORPORATION Income Statement For the Year Ended 31 December 20x5 Sales. Cost of sales. Gross profit. Operating expenses: Depreciation.... Other operating expenses. FOUR SEAS CORPORATION Statement of Financial Position As at 31 December 20x4 Net profit before tax. Taxation. Profit after tax. FC '000 10,500 3,000 2,000 15,500 9,000 6,500 15,500 FC '000 87,500 (68,000) 19,500 (2,100) (12,000) (14,100) 5,400 (1,600) 3,800