Secondary Ledger Concept in

R12
 Prerequisites

Chart of Accounts

Calendar

Currency

Convention(Accounting Method)
 Conversion Levels
Additional ledgers to the primary ledger called Secondary Ledgers.
They can optionally be assigned to an accounting setup to maintain
multiple accounting representations for the same legal entity.
Each secondary ledger can be maintained at one of the following data
conversion levels:

Subledger level secondary ledger: Maintains subledger journals,

general ledger journal entries, and balances in the additional accounting
representation. This data conversion level uses both Subledger
accounting and the General Ledger Posting program to create the
necessary journals in both the primary and secondary ledgers
simultaneously.

Journal level secondary ledger: Maintains primary ledger journal

entries and balances in an additional accounting representation. This type
of secondary ledger is maintained using the General Ledger Posting
program. Every time a journal is posted in the primary ledger, the same
journal can be automatically replicated and maintained in the secondary
ledger for those journal sources and categories that are set up for this
behavior.
Balance level secondary ledger: Maintains primary ledger
account balances in another accounting representation. This
type of secondary ledger requires Oracle General Ledger
Consolidation to transfer primary ledger balances to this
secondary ledger
Adjustments only secondary ledger level is an incomplete
accounting representation that holds only adjustments. The
adjustments can be manual adjustments or automated
adjustments from Subledger Accounting. This type of ledger
must share the same chart of accounts, accounting
calendar/period type combination, and currency as the
associated primary ledger. To obtain a complete secondary
accounting representation that includes both the transactional
data and the adjustments, use ledger sets to combine the
adjustments-only secondary ledger with the primary ledger
when running reports.
 Translation Methods: Example
• Suppose you had 100 British pounds on deposit in a
London bank at the end of 1993 when the exchange
rate is $1.80. To report the deposit on your 1994
Balance Sheet stated in dollars, you would translate
the deposit at the current rate and you would report
an asset of $180.
• At the end of 1994, you still have the 100 pounds in
the bank, but now the exchange rate is $1.70. To
report the deposit on your 1994 Balance Sheet, it
would now translate into $170 and you would have
an imbalance of $10 to deal with.
 Translation Methods: Example
• If you translated at the historical rate, you
would still translate into $180 and there
would be no imbalance.
• Has the $10 been realized in cash?
• Should realization affect reporting?
 Exchange Rates

• Current rate--exchange rate prevailing as of

the financial statement date
• Historical rate--exchange rate prevailing
when a foreign currency asset was first
acquired or a foreign currency liability was
first incurred
• Average rate--simple or weighted average of
either current or historical exchange rates
 Two Major Issues
• Which exchange rate should be used to
translate foreign currency balances to
domestic currency?
• How should translation gains and losses be
accounted for? Should they be included in
income?
• Translation methods may employ a single
rate or multiple rates.
 Translation Models
• 4 Major models:
• Current/Noncurrent
• Monetary/Nonmonetary
• Temporal
• Current Rate
 Revenues/Expenses
• In general, all 4 models agree on the translation of
sales revenues and other revenues and most
operating expenses on the income statement
(depreciation expense may be an exception; what
historical rate do you use?) .
• Typically, these are translated using the historical
rate in effect when the revenue was earned or the
expense recognized. That may be an average rate
for the period.
 Translation Models
• Current-Noncurrent Model
– Traditional Accounting Classification for
assets and liabilities
– Current items on the balance sheet are
translated at the current rate.
– Long-term items on the balance sheet are
translated at the historical rate.
– COGS is translated at the current rate (it is
based on inventory, a current asset)*
– *Some authorities translate COGS at average
rate (historical rate, assuming COGS is incurred
evenly over the period)
– Depreciation is translated at the appropriate
historical rate based on the date of acquisition
of the assets (otherwise there would be an
additional imbalance.)
– No theoretical support for this model.
– Translation gains and losses are generally
included in Net Income, but treatment is
flexible.
 Translation Models

• Monetary-Nonmonetary
• Focuses on the financial character of the
foreign financial statement elements to
determine appropriate rate.
– Foreign currency assets and liabilities
expressed as a fixed number of currency
units are defined as monetary (receivables
and payables). Other items are nonmonetary.
– Monetary items translate at the current rate.
– Nonmonetary items translate at the historical
rate.
 Monetary/Nonmonetary
• Monetary assets and liabilities
• Representing rights to receive or
obligations to pay a fixed number of
foreign currency units in the future.
Translated at current rate.
 Nonmonetary items
• Nonmonetary items include fixed assets,
long term investments, and inventories.
• Translated at the historical rate.
 Translation Models

Main difference between Current-

Noncurrent and Monetary-Nonmonetary:
– Translation rates used for noncurrent
receivables and payables, (current rate)
– Translation rates used for inventory, and
prepaid items (historical rate)
Issues…
• INVENTORY is a non-monetary item and is
translated at the historical rate.
• COGS is also translated at the historical rate. **
• DEPRECIATION is translated at the historical
rate.
** While COGS is translated at the historical rate,
Sales revenue is still translated at the average rate
for the period. This impacts gross margin.
• Also, inventory is translated at the historical rate,
but payables (used to finance inventory) are
translated at the current rate.
 Temporal Method
• The temporal model considers currency
translation as a measurement conversion
process
• As such, it cannot be used to change the
attribute of an item being measured, it can
only change the unit of measure.
• There is a time dimension.
• The temporal method is very similar to
monetary/nonmonetary and unless there are
significant difference in GAAP may present
identical results.
• Differences occur for items that have been
revalued. If no revaluation is allowed, the
two methods yield identical results.
 Temporal Model
• Foreign balance sheet items are measured
according to three different bases:
• past exchange prices (HC)
• current exchange prices (current value)
• future values
• The underlying measurement base is the
primary criterion for selecting an exchange rate
 Temporal Method
• Cost of Goods Sold and Depreciation
Expense are translated at their historical
rate.
• Exchange gains and losses from
translation are included in current net
income.
History of US Standard Setting with
Respect to Translation
 FAS # 8
• FAS 8 required the use of the temporal
method in the US. In the Fall of 1978, the
FASB invited comments on the first 12
standards that had been issued.
Approximately 200 written responses were
received; 176 dealt in some manner with
FAS 8, and 88% were negative.
 Criticisms of Temporal Method
• The results of translation frequently do not
reflect the underlying economic reality of
foreign operations
• This is underscored by the volatility of
reported earnings using this method
• Financial results and relationships are
distorted
• Sources of these problems are the
requirement for current recognition of the
unrealized exchange adjustment and
• Translation of inventories and fixed assets
at historical rates, while the debt used to
acquire these assets is translated at current
rates.
• The use of the temporal method can cause
distortions such that a net income in the
foreign currency translates to a net loss in
the home currency…
• Companies changed their foreign exchange
risk management practices as a result of
FAS 8
• The potential translation impact of FAS 8
had led a number of firms to refrain from
making otherwise acceptable foreign direct
investments, and
• Firms had made important changes in their
foreign currency borrowing patterns.
• So rather than reporting the results of
management operations, accounting began
to define management decisions and form
was overriding substance….
 Current Rate Model
• Simplest of all translation methodologies
 Current Rate Model
• Translate all assets and liabilities at the rate in
effect on the financial statement date.
• In the purest form, translates both cost of
goods sold and depreciation expense at current
rate, but they may be translated at the average
rate to be consistent with the other income
statement items.
• This model is a key component of FAS 52.
 Goals of FAS 52
1 Present results that were directionally
sympathetic to the real economic effects
of exchange rate movements.
2 Preserve financial results and
relationships in the foreign financial
statements through the translation
process.
• Under SFAS 52, all exchange gains and
losses from the application of the current
rate method will be reported in the Balance
Sheet as an adjustment to Owners' Equity
(now on the Statement of Comprehensive
Income in the US). These gains and losses
do NOT flow through the Income
Statement.
 Functional Currency
• FAS 52 introduced the concept of the
functional currency. The functional
currency is used to differentiate between two
types of foreign operations..
1 Those that are self-contained and
integrated into a local environment
2 Those that are an extension of the parent
and integrated with the parent.
• For the first kind of operation above, SFAS
52 requires that the foreign financial
statements first be expressed in their
functional currency (likely the local
currency) and then translated into dollars
using the current rate method. Translation
gains and losses go on the statement of
comprehensive income.
• For the second type of operation, the
functional currency is the dollar and the
temporal method is applied to convert from
the local currency to the US dollar (with
gains and losses going to the income
statement).
 Functional Currency
• The functional currency is the currency of
the country that represents the primary
economic environment for the foreign
operation. It is the currency in which the
operations and the cash flows are
domiciled.
• It may be the reporting currency or the
foreign (local) currency
• Reporting currency is the currency in which
the parent company prepares its financial
statements.
• Foreign currency is anything other than the
reporting currency.
• Local currency is the currency in the
country where the foreign firm is operating.
• The US parent must determine a single
functional currency for each of its foreign
operations.
• The foreign financial statements must first
be expressed in the functional currency
before being translated into dollars.
 International Accounting Issues

• Determining the correct functional currency

is complex, important and drives the
behavior of people in a business.
• Teamwork between Accounting, Treasury,
Financial Trading and Product Line
Managers is Key.
 FAS 52

• The functional currency for a given foreign

operation is a matter of fact,
• Management judgement is required in the
functional currency determination process.
 Indicators
1 Cash Flow Indicator: Denomination of
cash flows.
2 Sales Price Indicator: Responsiveness of
selling prices to exchange rates on a short-
term basis.
3 Sales Market Indicator: Existence of an
active local sales market for the product.
4 Expense Indicator: Existence of a local
source for operating costs.
5 Financing Indicator: denomination of the
firm's primary financing.
6 Intercompany Indicator: The volume of
intercompany transactions.
 Functional Currency
• To determine the functional currency, the
most heavily weighted factors are indicators
related to:
– Cash Flows
– Expense and Revenue Items
 Functional Currency
• If a foreign operation’s transactions are
denominated in other than its functional
currency, the financial statements must first
be translated using the temporal method.
• Gain or Loss is included in the net income
of the subsidiary.
• After translating to the functional currency,
the current rate method is used to restate the
information into US dollars for
consolidation with the parent company
financial information.
 FAS NO. 52
• The functional currency of a particular
foreign entity is defined as the currency of
the primary economic environment in which
it operates and generates cash flows.
• Determination of the functional currency is a
key feature of FAS No. 52 as it determines
the choice of translation method and
disposition of exchange gains and losses.
• If the US dollar is determined to be the
functional currency, a foreign entity's
financial statements are re-measured to a
dollar perspective using the temporal
method (and gains and losses go to the
income statement..)
Exception to the Current Rate Method
• An exception to the current rate method is
required for subsidiaries located in
environments in which the cumulative rate
of inflation during the preceding three years
exceeds 100 percent. (26% annual rate with
compounding).
• In such hyper inflationary environments,
the dollar becomes the functional currency,
requiring the use of the temporal translation
method.
 What is the Functional Currency
• U.S. Dollar or local currency
• U.S. Dollar if:
– Highly inflationary country
– U.S. Dollar is the currency of the business,
(e.g., Financial Trading, World Grain Trading)
• Local Currency if:
– Stable Country
– Local Currency is used for the Business
Feed/Spain, Seed/Germany
 When Should a Local Currency be the
Functional Currency in a Stable Economy?
• Cash flows are local currency.
• Sales prices are determined by local
conditions / in local currency.
• Expenses are paid in local currency / driven
by local conditions.
• Financing done in local currencies.
• Inventory value liked to local conditions.
 Translation Gain or Loss
• Impacts of change in exchange rates on the
balance sheet.
• U.S. Dollar based businesses - translation
gain or loss to the P&L.
• Local currency businesses- translation gain or
loss goes directly to stockholder’s equity
(Accumulated Translation Adjustment)
• Translation gains or losses do not have a
local currency cash flow impact.
 Cargill
Functional Currency - France

Grain U.S. Dollar

Sugar U.S. Dollar
Feed French Franc
Seed French Franc
Cargill’s Accumulated
Translation Adjustment
• 1993 6.6
• 1994 (18.7)
• 1995 78.7
• 1996 13.3
• 1997 (46.3)
 Management Responsibility
• Local currency business managers manage
the local currency P&L and don’t manage
the translation gain or loss.
• U.S. Dollar businesses manage the U.S.
Dollar P&L and take steps to manage
foreign currency risks.
 Focus
• Local currency businesses focus on maximizing
the local currency profit performance.
• U.S. Dollar businesses are evaluated on U.S.
Dollar profitability and take action to maximize
same.
• Foreign exchange risk hedging practices will
vary.
• Incentive compensation programs will be
different.