Proposal for handling different currencies

[Bob Gustafson <..hidden..>]

This example is prompted by the need to:

1) Handle accounting in one currency (EUR), pay bills, receive rent,
etc.
2) Make investments from one currency (USD) to the other (EUR)
3) Pay taxes on profits (if any) in USD.

The Chicken Farm example shows two methods of getting the necessary view
for paying taxes (item 3 above).

I think the 2nd method, even though it requires more computation to
generate the USD view, is more correct.

Any comments?

=====================================

If you take for example, an investment of $100,000 USD in a French
chicken farm.  If the exchange rate from USD to EUR is 0.7300, then
a naive Accounting would show:

USD Cash Account                     Debit       Credit
  Chicken Farm Purchase                      100,000.00

EUR Bank Account                     Debit       Credit
  Chicken Farm Purchase                       73,000.00

============================================

What I would like to see are two views or planes, one USD denominated
and the other EUR denominated.  If you make the investment in the French
chicken farm, the $100,000 goes through a tunnel between the USD world
and the EUR world. In this tunnel, it is multiplied by the exchange rate
(directionally) and perhaps even an exchange fee is deducted. This
exchange fee goes into an expense account as shown below.

At moment 1, you have $100,000 in your pocket and no French chicken
farm.  A view (to be defined later) in the USD world shows the $100,000
in the pocket and 0 USD in French chicken farm equity.

If you make the transaction, with the exchange rate of 0.73 and a 1%
transaction fee taken out of the USD amount, at the end of the
transaction, you would see on the Dollar side, an expense of $1,000 and
an equity of $99,000 in the French chicken farm.

[This is not a reversible transaction, the $1,000 transaction fee is
gone. Also, if you try to reverse it, the exchange rate going the other
way will be different (and probably a money losing one as well)].

On the French side, the chicken farmer got 0.73 * 99,000 = 72,270 EUR. A
French manager of the chicken farm would see an equity investment of
72,270 EUR and a foreign exchange expense of $1,000 * 0.73 = 730 EUR.

Some time later, the French manager sells 1000 chickens that originally
cost 1 EUR for 2 EUR. The chicken feed during that same period, for
those chickens was 0.20 each.

(As a side piece of data, the USD to EUR exchange rate is 0.71 at the
time the chicken sale was made and the average exchange rate during the
period the chicken feed was purchased was 0.72 )

Some time later, the American entrepreneur needs to file taxes and she
calls up accounting statements:

In Euros, the balance sheet looks like:

Equity  72,270 EUR

-------------------

Revenue   2000 EUR

Feed cost  200 EUR

FX Cost    730 EUR

------------------

Profit  = 1070 EUR

Converting this back into USD for the tax report, one can use the
conversion rate at the end of the accounting period to get a VIEW of the
books in USD. We are actually not transferring any euros back into
dollars, but just viewing the books through the foreign exchange
multiplier(s).

We can construct this view in two ways - We could multiply all of the
transactions by the FX rate that existed at the time of the transaction,
or we could multiply everything by the exchange rate existing at the
moment of the accounting view construction.

If the exchange rate at the moment the accounting view was constructed
is 0.70 euros = $1.00  or  1.00 euros = $1.42857

Using this later interpretation, we would have:

Equity  72,270  * 1.42857  =   103,242.75  USD

----------

Revenue  2,000  * 1.42857  =   + 2,857.14  USD

Feed cost  200  * 1.42857  =   -   285.71  USD

FX Cost    730  * 1.42857  =   - 1,042.86  USD

------

Profit   1,070  * 1.42857  =   + 1,528.57  USD

===================================

If we choose to do the multiplication using exchange rates available at
the moment of the transaction, then we would have:

Equity  72,270  * 1.36986  =       99,000  USD

----------

Revenue  2,000  * 1.40845  =   + 2,816.90  USD

Feed cost  200  * 1.38889  =    -  277.78  USD

FX Cost    730  * 1.36986  =   - 1,000.00  USD

----------------------------------- summ ---

Profit                     =   + 1,539.12  USD


=========
These 'views' are 'reversible' in the sense that no actual money has
been lost or expensed in creating the views. Once you have made the
choice of internal method, a click of a button will do the calculation
of a new view in another currency.

(If the 'by transaction' FX conversion method is used, this assumes a
database supplying FX numbers over the date range of transactions - this
you have already)

I would guess that most multi-national companies do their calculations
in much the same way. Maybe this view is one reason for the success of
SAP as a provider of bookkeeping/accounting systems.

=======

Best regards

Bob G