I.

FOUR METHODS OF TRANSLATION

A. Current/Noncurrent Method
1. Current accounts use current exchange
rate for conversion.
2. Income statement accounts use average
exchange rate for the period.
B. Monetary/Nonmonetary Method
1. Monetary accounts use current rate
2. Pertains to
- Cash
- Accounts receivable
- Accounts payable
- Long term debt
3. Nonmonetary accounts
- Use historical rates
- Pertains to: Inventory, Fixed assets,
Long term investments
4. Income statement accounts
- Use average exchange rate for the
period.
C.

Temporal Method
1. Similar
to

monetary/non-monetary

method.
2.

Use current method for inventory.

D. Current Rate Method

all statements use current exchange rate for
conversions.

I.

FASB NO. 52
A. Dissatisfaction with FASB No. 8: true
profitability often disguised by exchange rate
volatility.
B.

Translation Gains or Losses:

1. Recorded
account on balance sheet.
2. Known as
adjustment account.

in

separate

cumulative

equity

translation

C. New Distinction in FASB No. 52: functional v.

reporting currency
1. Functional currency
for
foreign
subsidiary:
- The currency used in the primary economic
environment in which it operates.
2. Reporting currency :
- The currency the parent firm uses to
prepare its financial statements.
D.When Functional and Reporting
Currencies
are the Same
1. If foreign subsidiary operations are
direct extension of parent
firm
e.g.
Hong Kong assembly plant which
sells all its products in the U.S. market.
2.
countries

During hyperinflations in the subsidiary

Hyperinflation is defined as a cumulative inflation

rate of 100% over a three-year period.
PART III. ACCOUNTING PRACTICE AND ECONOMIC
REALITY
I. Accounting v. Economic Exposure:
measurement of exchange rate risk indicates
major difference exists.
A.
Accounting
decisions of the firm.

exposure

reflects

past

B. Economic exposure
1.
Focuses on future impact of
exchange rate changes.
2. Not all future cash flows appear on
the firms balance sheet.

Sample Problem
Suppose on January
subsidiary showed:

1, American

Golfs

Mexican

Current assets of 1 million Pesos;

Current liabilities of 300,000 Pesos;
Total assets = 2.5 million Pesos;
Total liabilities = 900,000 Pesos
Exchange rate on Jan 1
= $.1270
on
Dec 31
= $.1180
Under FASB-52, what is the exposure if the Peso is the
functional currency?
- All assets and liabilities translated at current
rate.

At beginning of the year:

2,500,000-900,000 = 1,600,000 Pesos Equity
1,600,000 x $.1270 = $203,200

At the end of the year:

1,600,000 x $.1180 = $188,800
This involves a translation loss for American Golf of:
$203,200 188,800 = $14,400 Pesos