© The McGraw-Hill Companies, Inc., 2001 Slide 10-1 McGraw-Hill/Irwin 10 C H A P T E R Translation...

© The McGraw-Hill Companies, Inc., 2001

Slide 10-1

McGraw-Hill/Irwin

10

C H A P T E R

Translation of Foreign Currency

Financial Statements


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If we control our subsidiaries, why don’t they all use the U.S. $ as their

currency?

Our subsidiaries in other countries are required by local regulations to use the local currency where they are located. Their

statements must be translated to US $.

Translation of Financial StatementsTranslation of Financial Statements


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In addition, many countries have different accounting rules that

we must consider before translating the sub’s financial

statements.



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To translate a foreign subsidiary’s financial

statements into U.S. $, we must use both:

Historical Exchange Rates, and

Current Exchange Rates.



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Translation AdjustmentsTranslation Adjustments

The use of different exchange rates during translation means the resulting financial statements will not balance!

To force the statements to balance, an account called “Translation Adjustment” is debited or credited.

The use of different exchange rates during translation means the resulting financial statements will not balance!

To force the statements to balance, an account called “Translation Adjustment” is debited or credited.


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Translation MethodsTranslation Methods

Current/Noncurrent Method Since 1975, no longer allowed

by GAAP.

Monetary/Nonmonetary Method Developed in 1956. Not used

extensively.

Current Rate Method Temporal Method

Current/Noncurrent Method Since 1975, no longer allowed

by GAAP.

Monetary/Nonmonetary Method Developed in 1956. Not used

extensively.

Current Rate Method Temporal Method

Methods in use today.

Methods in use today.


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Parent

Subsidiary

TranslationCurrent Rate Method

TranslationCurrent Rate Method

Use current exchange rates to translate all assets and liabilities.

Use historical (or average exchange rates to translate equity accounts.

Use historical (or average exchange rates to translate income statement accounts.

Use current exchange rates to translate all assets and liabilities.

Use historical (or average exchange rates to translate equity accounts.

Use historical (or average exchange rates to translate income statement accounts.


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Parent

Subsidiary

TranslationTemporal Method

TranslationTemporal Method

Use historical exchange rates to translate assets and liabilities carried at historical cost.

Use current exchange rates to translate assets and liabilities carried at current cost or future value.

Use historical (or average) exchange rates to translate equity, revenue, and expense accounts.

Use historical exchange rates to translate assets and liabilities carried at historical cost.

Use current exchange rates to translate assets and liabilities carried at current cost or future value.

Use historical (or average) exchange rates to translate equity, revenue, and expense accounts.


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Calculation of Cost of Goods SoldCalculation of Cost of Goods Sold

Current Rate Method - translate using the weighted average rate for the current period.

Current Rate Method - translate using the weighted average rate for the current period.

Temporal Method - decompose COGS into its component parts and translate each part using the

appropriate rate

Apply Lower-of-Cost-or-Market using the foreign exchanges rates.

Temporal Method - decompose COGS into its component parts and translate each part using the

appropriate rate

Apply Lower-of-Cost-or-Market using the foreign exchanges rates.


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Fixed Assets and Accumulated Depreciation

Fixed Assets and Accumulated Depreciation

Current Rate Method - translate fixed assets and accumulated

depreciation using the spot rate as of the balance sheet date.

Current Rate Method - translate fixed assets and accumulated

depreciation using the spot rate as of the balance sheet date.

Temporal Method - fixed assets acquired at different times will be translated using their respective

historical translation rates. Accumulated depreciation uses the

same historical rates as the related asset.

Temporal Method - fixed assets acquired at different times will be translated using their respective

historical translation rates. Accumulated depreciation uses the

same historical rates as the related asset.


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Depreciation ExpenseDepreciation Expense

Current Rate Method - translate depreciation expense using the

weighted-average rate for the current period

Current Rate Method - translate depreciation expense using the

weighted-average rate for the current period

Temporal Method - translate depreciation expense using the

various historical rates related to the underlying assets.

Temporal Method - translate depreciation expense using the

various historical rates related to the underlying assets.


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Gain or Loss on the Sale of an AssetGain or Loss on the Sale of an Asset

Current Rate Method - translate the gain/loss using the historical rate in effect on the date of sale

Current Rate Method - translate the gain/loss using the historical rate in effect on the date of sale

Temporal Method - the gain must be computed indirectly, using different rates.

Temporal Method - the gain must be computed indirectly, using different rates.


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Disposition of Translation Adjustment

Disposition of Translation Adjustment

Current Method Translation

Adjustment is reported on the Balance Sheet.

Temporal Method Adjustment is

reported on the Income Statement as a Translation Gain or (Loss)

Current Method Translation

Adjustment is reported on the Balance Sheet.

Temporal Method Adjustment is

reported on the Income Statement as a Translation Gain or (Loss)


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TranslationU.S. Accounting Rules

TranslationU.S. Accounting Rules

SFAS No. 8 (1975) - Accounting for Translation of Foreign Currency Transactions and Foreign Currency Financial Statements.

SFAS No. 52 (1981) - Foreign Currency Translation.

SFAS No. 130 (1998)

SFAS No. 8 (1975) - Accounting for Translation of Foreign Currency Transactions and Foreign Currency Financial Statements.

SFAS No. 52 (1981) - Foreign Currency Translation.

SFAS No. 130 (1998)


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A very negative reaction from the

profession.

Discouraged foreign direct investment in order to avoid

translation losses on the income

statement.

A very negative reaction from the

profession.

Discouraged foreign direct investment in order to avoid

translation losses on the income

statement.

SFAS No. 8SFAS No. 8

Mandated the temporal method.

Translations gains and losses reported on the income statement.

Assumes that subs will use the U.S $ for accounting if possible (the U.S. $ perspective to translation).

Mandated the temporal method.

Translations gains and losses reported on the income statement.

Assumes that subs will use the U.S $ for accounting if possible (the U.S. $ perspective to translation).


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Applies the “local currency perspective”.

Use current rate method.

Translation adjustment appears in

the equity section.

Applies the “local currency perspective”.

Use current rate method.

Translation adjustment appears in

the equity section.

SFAS No. 52SFAS No. 52

Recognized two types of subs:

Subs that do most of their transactions in U.S. $

Subs that operate relatively independently of their U.S. parents.

Temporal method still applies.

Temporal method still applies.


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Translation - ExampleTranslation - Example

News Co., is a wholly owned foreign sub of ATG Corporation. News Co.’s transactions and financial statements are denominated in the local (functional) currency, the Pater (PT).

Using the following information, translate their statements into US $.

News Co., is a wholly owned foreign sub of ATG Corporation. News Co.’s transactions and financial statements are denominated in the local (functional) currency, the Pater (PT).

Using the following information, translate their statements into US $.


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News Co.’s common stock was issued in 1992 when the exchange rate was $1.00 = 1.20 PT.

Fixed assets were acquired in 1993 when the exchange rate was $1.00 = 1.10 PT.

As of Jan. 1, 2001, the R/E balance was translated at $350,000.

Inventory was acquired evenly throughout the year.

News Co.’s common stock was issued in 1992 when the exchange rate was $1.00 = 1.20 PT.

Fixed assets were acquired in 1993 when the exchange rate was $1.00 = 1.10 PT.

As of Jan. 1, 2001, the R/E balance was translated at $350,000.

Inventory was acquired evenly throughout the year.


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The Dec. 31, 20007 translation adjustment had a debit balance of $69,841.

Dividends were declared on March 15, 2001, and equipment was sold on October 1, 2001.

The following exchange rates were in effect during the year:


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Determine the appropriate

exchange rates to use for each

account.



account.


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Weighted average rates are generally

used for Sales, COGS, and other recurring

expenses.

Weighted average rates are generally

used for Sales, COGS, and other recurring

expenses.


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The actual historical rate is used when we

can identify it efficiently.

The actual historical rate is used when we

can identify it efficiently.


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account.



account.



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The beginning R/E is carried over from the

prior year.

The beginning R/E is carried over from the

prior year.


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The net income is taken from the income

statement.

The net income is taken from the income

statement.


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Dividends are translated at the historical rate on the date of declaration.

Dividends are translated at the historical rate on the date of declaration.


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All assets and liabilities are translated at

the current rate at the balance

sheet date.

All assets and liabilities are translated at

the current rate at the balance

sheet date.


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Common Stock is translated at the historical rate at

the time the stock was issued.

Common Stock is translated at the historical rate at

the time the stock was issued.


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The Ending R/E comes from the statement of

retained earnings.

The Ending R/E comes from the statement of

retained earnings.


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The translation adjustment is:

The difference between Net Assets at current rates and Net

Assets at historical rates added to the translation

adjustment balance at the beginning of the year:

$41,511 + $69,841 = $111,352

The translation adjustment is:

The difference between Net Assets at current rates and Net

Assets at historical rates added to the translation

adjustment balance at the beginning of the year:

$41,511 + $69,841 = $111,352


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Remeasurement of Financial Statements

Remeasurement of Financial Statements

If the sub’s functional currency is the U.S. $, then any balances denominated in the local currency, must be remeasured.

Remeasurement requires the application of the temporal method.

The remeasurement gain/loss appears on the income statement.

If the sub’s functional currency is the U.S. $, then any balances denominated in the local currency, must be remeasured.

Remeasurement requires the application of the temporal method.

The remeasurement gain/loss appears on the income statement.


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Disclosures Related to TranslationDisclosures Related to Translation

An analysis of the change in the cumulative translation adjustment. can be on the Statement of

Retained Earnings or in the Notes

Many companies also include a description of the translation procedures in Note 1.

An analysis of the change in the cumulative translation adjustment. can be on the Statement of

Retained Earnings or in the Notes

Many companies also include a description of the translation procedures in Note 1.


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I just can’t take much more of

this . . .

© The McGraw-Hill Companies, Inc., 2001 Slide 10-1 McGraw-Hill/Irwin 10 C H A P T E R Translation...

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