Impact of Krona Devaluation on Spectrum AB’s Financial Statement under FASB-52
FASB-52 = Statement of Financial Accounting Standards No. 52.
First-year cash flow (SKr 4 = $1)
$900,000
First-year cash flow (SKr 5 = $1)
720,000
Net loss from devaluation
$180,000
Moreover, this loss will continue until relative prices adjust. Part of this loss, however, will be offset by the $150,000 gain that will be realized when the SKr 3 million loan is repaid (3 million X 0.05).4 If a three-year adjustment process is assumed and the krona loan will be repaid at the end of year 3, then the present value of the economic loss from operations associated with the krona devaluation, using a 15% discount rate, equals $312,420:
Year
Postdevaluation Cash Flow (1)
—
Predevaluation Cash Flow (2)
=
Change in Cash Flow (3)
X
15% Present Value Factor (4)
=
Present Value (5)
1
$720,000
$900,000
—$180,000
0.870
—$156,600
2
720,000
900,000
—180,000
0.756
—136,080
3
870,000*
900,000
—30,000
0.658
—19,740
Net Loss
—$312,420
*Includes a gain of $150,000 on loan repayment.
This loss is due primarily to the inability to raise the sales price. The resulting constant krona profit margin translates into a 20% reduction in dollar profits. The economic loss of $312,420 contrasts with the accounting recognition of a $685,000 foreign exchange loss. In reality, of course, the prices, costs, volume, and input mix are unlikely to remain fixed. The discussion will now focus on the economic effects of some of these potential adjustments.