Foreign Currency Translation

Rules for translating functional currency FS into the selected presentation currency FS.

a. Assets and liabilities are translated at the exchange rate existing at the balance sheet date.b. Stockholders equity items are translated using historical rates (i.e. the exchange rates at the original transaction dates) except retained earnings which is translated by components. Retained earnings may be translated by applying a single rate at the date of acquisition only, using the spot exchange rate at that date.c. Revenues and expenses rates at the date of the transaction. For practical purposes, a weighted average for the current period is used instead.d. This translation process is referred to as Current rate method and any exchange difference resulting from its application is called translation adjustment shown as a component of stockholders equity.

Practice Problems

Assume that on January 2, 2014, P Company, a Philippine based company acquired for US$2,000,000,000 on 80% interest in S Company and maintains its books in U.S. dollars and they are in conformity with GAAP in the Philippines. S Companys financial statements are prepared in the local currency unit.

Exchange rates for the US dollars for 2014 are as follows:

DateSpot rate

January 2, 2014 (date of acquisition) 40.00

September 1, 2014 40.10

December 31, 2014 40.25

Average for the year 40.20

In translating the income statement accounts, it is assumed that revenues were generated and expenses were incurred evenly during the year.

Translation into the presentation currency (Current/Closing rate method)

Income statement and R/ETrial BalanceExchange rate Translated TB

Sales3,020,00040.20 121,404,000

COGS1,850,00040.20 74,370,000

Depreciation expense100,00040.20 4,020,000

Other expenses655,00040.20 26,331,000

Income tax expense82,00040.20 3,296,400

Net Income to Retained Earnings333,000 13,386,600

Retained Earnings 1/1480,00040.00 19,200,000

Total813,000 32,586,600

Less: Dividends declared 9/1/2014300,00040.10 12,030,000

Retained Earnings 12/31513,000 20,556,600

Balance sheet

Cash930,00040.25 37,432,500

Accounts Receivable608,00040.25 24,472,000

Inventory830,00040.25 33,407,500

Land500,00040.25 20,125,000

Building650,00040.25 26,162,500

Equipment430,00040.25 17,307,500

Total3,948,000 158,907,000

Liabilities and Equity

Accounts payable640,00040.25 25,760,000

Short-term payable635,00040.25 25,558,750

Bonds payable900,00040.25 36,225,000

Common stock, 10 par960,00040.00 38,400,000

Paid in capital in excess of par300,00040.00 12,000,000

Retained earnings from above513,000 20,556,600

Foreign currency translation adjustmentB/A 406,650

Total Liabilities and Equity3,948,000 158,907,000

Verification of translation adjustment

US $Exchange rateReporting currency (Peso)

Jan. 2 Exposed net asset position1,740,00040.0069,600,000

Adjustments for changes in net asset position during the year

Net Income333,00040.2013,386,600

Dividends declared(300,000)40.10(12,030,000)

Net asset position translated using rate in each transaction70,956,600

Dec. 31 Exposed net asset position1,773,00040.2571,363,250

Change in cumulative transaction adjustment during the year406,650

Jan. 2 Cumulative translation adjustment-

Dec. 31 cumulative translation adjustment406,650