TRANSLATION OF A FOREIGN

ENTITYS FINANCIAL STATEMENTS

AKUNTANSI KEUANGAN LANJUTAN II
TRANSLATION OF A FOREIGN ENTITY’S
FINANCIAL STATEMENTS

 if a foreign entity’s financial statement amounts are expressed in a functional

currency other than the U.S. dollar, those amounts must be translated to dollars
(the U.S. reporting currency) by the current rate method
Rates used for translation:
 Current Rate: All balance sheet amount other than owners’ equity and in income
statement, all revenue and expenses, if practical.
 Historical Rate: Owners’ equity.
 Average Rate: All other revenues and expenses.
Translation of Financial Statements of Foreign
Influenced Investee
To illustrate the translation of the financial statements of a foreign investee whose functional currency is its local currency

 Assume that on May 31, 2005, the end of a fiscal year, Colossus Company, a U.S.
multinational company, acquired 30% of the outstanding common stock of a
corporation in Venezuela, which is termed Venezuela Investee
 Although the investment of Colossus enabled it to exercise influence (but not
control) over the operations and financial policies of Venezuela Investee, that
entity’s functional currency was the bolivar (B).
 Colossus acquired its investment in Venezuela Investee for B600,000, which
Colossus acquired at the selling spot rate of B1 $0.25, for a total cost of $150,000.
Out- of-pocket costs of the investment may be disregarded
To illustrate the translation of the financial statements of a
foreign investee whose functional currency is its local currency

 Stockholders’ equity of Venezuela Investee on May 31, 2005

 There was no difference between the cost of Colossus Company’s investment and
its equity in the net assets of Venezuela Investee (B2,000,000 x 0.30 B600,000,
the cost of the investment)
 The exchange rates for the bolivar were
Translation of Venezuela Investee’s financial statements from the functional currency to
the U.S. dollar reporting currency for the fiscal year ended May 31, 2006,
Translation of Venezuela Investee’s financial statements from the
functional currency to the U.S. dollar reporting currency for the fiscal year
ended May 31, 2006,

 In a review of the translation of the foreign investee’s financial statements illustrated on

the previous slide, the following features may be emphasized:
 All assets and liabilities are translated at the current rate.
 The paid-in capital amounts and the beginning retained earnings are translated at
the historical rate on the date of Colossus Company’s acquisition of its investment in
Venezuela Investee.
 The average rate for the year ended May 31, 2006, is used to translate all revenue and
expenses in the income statement.
 A balancing amount labeled foreign currency translation adjustments, which is not a
ledger account, is used to reconcile total liabilities and stockholders’ equity with total
assets in the translated balance sheet of Venezuela Investee. Foreign currency
translation adjustments are displayed in the accumulated other comprehensive income
section of the translated balance sheet.
Prepare the journal entries
Following the translation of Venezuela Investee’s financial statements from bolivars (the functional
currency of Venezuela Investee) to U.S. dollars (the reporting currency of Colossus Company), on May
31, 2006

Investor Company’s Journal Entries under Equity Method of Accounting

Investment in venezuela investee common stock ($ 520,000 x 0.30) 156,000
investment income
(30% of net income venezuela investee) 156,000

Investment in venezuela investee common stock ($60,000 x 0.30)

Foreign Currency Translation Adjustments 18,000
(30% other comprehensive income)
18,000
Dividend Receivable ($162,000 x 0.30)
Investment in Venezuela investee common stock
48,600
48,600
Prepare the Investment ledger account of Colossus Company (in U.S.
dollars) !!
Translation and Consolidation of Financial Statements of Foreign Subsidiary
To illustrate the translation and consolidation of financial statements of a foreign subsidiary whose functional currency is its local
currency

 assume that on August 31, 2005, the end of a fiscal year, SoPac Corporation, a
U.S. enterprise with no other subsidiaries, acquired at the selling spot rate of
$NZ1 $0.52 a draft for 500,000 New Zealand dollars ($NZ), which it used to
acquire all 10,000 authorized shares of $NZ50 par common stock of newly
organized Anzac, Ltd., a New Zealand enterprise.
 Journal Entry for Investment in Foreign Subsidiary
 Anzac, Ltd., was self-contained in New Zealand, where it conducted all its
operations. Thus, the functional currency of Anzac was the New Zealand dollar.
Further, to enhance Anzac’s growth, the board of directors of SoPac decided that
Anzac should pay no divi- dends to SoPac in the foreseeable future.
 For the fiscal year ended August 31, 2006, Anzac prepared the following income
statement and balance sheet
 The exchange rates for the New Zealand dollar were as follows
Working Paper for Translation of Subsidiary Financial Statements to U.S. Dollar
Reporting Currency from
New Zealand Dollar Functional Currency
 SoPac prepares the following journal entries in U.S. dollars under the equity
method of accounting for an investment in common stock
 Prepare working paper ellimination
Summary: Remeasurement and Translation
Other Aspects of Foreign Currency
Translation
The FASB Statement No. 52 also includes the following topics:
 Transaction gains and losses excluded from net income.
 Functional currency in highly inflationary economies.
 Income taxes related to foreign currency translation.
 Disclosure of foreign currency translation.
Transaction Gains and Losses Excluded
from Net Income
The FASB requires that gains and losses from the following foreign
currency transactions be accounted for in the same manner as
foreign currency adjustments:
1. Foreign currency transactions that are designated as, and are effective as,
economic hedges of a net investment in a foreign entity, commencing as of the
designation date.
2. Intercompany foreign currency transactions that are of a long-term investment
nature (that is, settlement is not planned or anticipated in the foreseeable future),
when the entities to the transaction are consolidated, combined, or accounted for
by the equity method.
Functional Currency in Highly Inflationary
Economies
 The FASB requires that the functional currency of a foreign entity in a highly
inflationary economy be identified as the reporting currency (the U.S. dollar for a
U.S. multinational enterprise).
 The FASB defined a highly inflationary economy as on having cumulative
inflation of 100% or more over a three-year period.
 Thus, financial statements of a foreign entity in a country experiencing severe
inflation are remeasured in U.S. dollars, regardless of the criteria for
determination of the functional currency.
Income Taxes Related to Foreign Currency
Translation
Conventional interperiod and intraperiod income tax allocation procedures were
described by the FASB as follows:
1. Interperiod tax allocation for temporary differences associated with foreign
currency transaction gains and losses that are reported in different accounting
periods for financial accounting and income taxes.
2. Interperiod tax allocation for temporary differences associated with foreign
currency translation adjustments that do not meet the criteria for nonrecognition
of deferred tax liabilities for undistributed earnings of foreign subsidiaries.
3. Intraperiod tax allocation for foreign currency translation adjustments included
in the stockholders’ equity section of the balance sheet.
Disclosure of Foreign Currency
Translation
The FASB requires disclosure:
 in the income statement or in a note to financial statements of the aggregate
foreign currency transaction gains or losses or an accounting period.
 of changes in foreign currency translation adjustments (as well as other
components of accumulated other comprehensive income) during an accounting
period.
 for forward contracts or other financial instruments designated as hedges of the
foreign currency exposure of a net investment in a foreign operation.
Appraisal of Accounting Standards for Foreign
Currency Translation
Criticisms:
1. It established an identifiable distinction between transaction gains and losses
arising from remeasurement and translation adjustments resulting from
translation although both involve comparable activities. Thus, they should be
accounted for in the same manner.
2. It abandoned the historical-cost principle by sanctioning use of the current rate
method for translation of foreign currency financial statements.