multinational accounting: translation of foreign entity statements

McGraw-Hill/ Irwin Copyright © 2002 by The McGraw-Hill Companies, Inc. All rights reserved.

12-12-11

Multinational Accounting: Translation of Foreign Entity Statements

12Electronic Presentation by

Douglas Cloud Pepperdine University

Baker / Lembke / KingBaker / Lembke / King


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The U.S. model, which focuses on the information needs of the common stockholder through the application of generally accepted accounting principles.

Differences in Accounting PrinciplesDifferences in Accounting Principles

Four major models of accounting


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The British model, which focuses on the information needs of bondholders, creditors, and preferred stockholders.




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The French-Italian-SpanishSpanish model, which is based on the information needs of the taxing authorities.

Differences in Accounting Principles



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The German and Scandinavian countries model, which is extremely conservative and uses large number of reserves to reduce income to its lowest level possible.




12-12-66Determining the Functional CurrencyDetermining the Functional Currency

FASB 52 provides specific guidelines

for translating foreign currency

financial statements.


12-12-77Determining the Functional CurrencyDetermining the Functional Currency

What is functional currency?

What is functional currency?

FASB 52 defines it as the currency of the primary economic environment inwhich the entity operates.

FASB 52 defines it as the currency of the primary economic environment inwhich the entity operates.

Normally, that is the currency of the environment in which an entity primarily generates and expends cash.

Normally, that is the currency of the environment in which an entity primarily generates and expends cash.


12-12-88Translation Versus RemeasurementTranslation Versus Remeasurement

Translation is the most common method used and is

applied when the local currency is the foreign

entity’s functional currency.

Translation is the most common method used and is

applied when the local currency is the foreign

entity’s functional currency.Remeasurement is the

restatement of the foreign entity’s financial statements from the local currency used by the entity into the foreign entity’s functional currency.

Remeasurement is the restatement of the foreign

entity’s financial statements from the local currency used by the entity into the foreign entity’s functional currency.


12-12-99Translating Foreign Entity’s Trial BalanceTranslating Foreign Entity’s Trial Balance

Income statement accounts:- Revenue and expenses Generally, weighted average

exchange rate for the period covered by the statement

Historical exchange rate

Current exchange rate on balance sheet date

Balance sheet accounts:- Assets and liabilities

- Stockholders’ equity

Cumulative translation adjustment

To Accumulated Other Comprehensive Income


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On January 1, 20X1, Peerless Products (U.S.) purchases 80 percent of the outstanding capital stock

of German Company (Germany) for $54,000.

On January 1, 20X1, Peerless Products (U.S.) purchases 80 percent of the outstanding capital stock

of German Company (Germany) for $54,000.

Translation and ConsolidationTranslation and Consolidation

The local currency for German Corporation is euro( ), which is also the functional currency.

The local currency for German Corporation is euro( ), which is also the functional currency.

On October 1, 20X1, the subsidiary declared and paid dividends of 6,250.

On October 1, 20X1, the subsidiary declared and paid dividends of 6,250.

The subsidiary received $4,200 in sales transactions with a U.S. company when the exchange rate was $1.20 = 1.

The subsidiary received $4,200 in sales transactions with a U.S. company when the exchange rate was $1.20 = 1.


12-12-1111Translation and ConsolidationTranslation and Consolidation

Relevant direct spots exchange rates ($/ 1) are:

January 1, 20X1 $1.20October 1, 20X1 1.36December 31, 20X1 1.4020X1 average 1.30

Date Rate

Jan. 1, 20X1

Investment in Germany Company Stock 54,000 Cash 54,000 Purchase of Germany Company stock.


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G

Investment cost$54,000

Book value of investment:Common stock $48,000Retained earnings 12,000Total $60,000

Percent of German Company’s stock acquired by Peerless

Company x .80(48,000)

Differential attributed to goodwill$ 6,000

Translation and ConsolidationTranslation and Consolidation

1/1/X1 80%

P


12-12-1313Jan. 1, 2001--Translation Trial BalanceJan. 1, 2001--Translation Trial Balance Balance Exchange Balance, Item Rate $

Cash 2,500 1.20 3,000Receivables 10,000 1.20 12,000Inventory 7,500 1.20 9,000Plant and Equipment 50,000 1.20 60,000Total Debits 70,000 84,000

Accumulated dep 5,000 1.2 6,000Account Payable 2,500 1.2 3,000Bonds Payable 12,500 1.2 15,000Common Stock 40,000 1.2 48,000Retained Earnings 10,000 1.2 12,000Total Credits 70,000 84,000

Current exchange rate on balance

sheet date


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Peerless German Eliminations Item Products Company Debits Credits Consolidated

Investment in German Co. Stock 54,000Differential

Common Stock 500,000 48,000Retained Earnings 300,000 12,000Noncontrolling Interest

January 1, 20X1 WorkpaperJanuary 1, 20X1 Workpaper


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Investment in German Co. Stock 54,000 54,000Differential 6,000

Common Stock 500,000 48,000 48,000 500,000Retained Earnings 300,000 12,000 12,000 300,000Noncontrolling Interest 12,000 12,000

Noncontrolling Interest = ($48,000 + $12,000) x .20 = $12,000

Noncontrolling Interest = ($48,000 + $12,000) x .20 = $12,000



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Investment in German Co. Stock 54,000 54,000Differential 6,000 6,000Patent 6,000 6,000Common Stock 500,000 48,000 48,000 500,000Retained Earnings 300,000 12,000 12,000 300,000Noncontrolling Interest 12,000 12,000

Assign differentialAssign differential



12-12-1717Dec. 31, 2001--Translation Trial BalanceDec. 31, 2001--Translation Trial Balance Balance Exchange Balance, Item Rate $

Cash 10,750 1.40 15,050Foreign Currency Units 3,000 1.40 4,200Receivables 10,500 1.40 14,700Inventory 5,000 1.40 7,000Plant and Equipment 50,000 1.40 70,000Cost of Goods Sold 22,500 1.30 29,250Operating Expenses 14,500 1.30 18,850Foreign Currency Transaction Loss 500 1.30 650Dividends Paid 6,250 1.36 8,500Total Debits 123,000 168,200


sheet date

Historical exchange rate on

date of declaration

Weighted-average

exchange rate


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Accumulated Depreciation 7,500 1.40 10,500Accounts Payable 3,000 1.40 4,200Bonds Payable 12,500 1.40 17,500Common Stock 40,000 1.20 48,000Retained Earnings (1/1) 10,000 * 12,000Sales 50,000 1.30 65,000Total 128,000 157,200Accumulated Other Comprehensive Income-- Translation Adjustment 11,000Total Credits 168,200

*From the January 1, 20X1, translation workpaper.


sheet dateHistorical exchange rate on date of acquiring

subsidiary

From the beginning of year

translation workpaperWeighted average

exchange rate

Dec. 31, 2001--Translation Trial BalanceDec. 31, 2001--Translation Trial Balance Balance Exchange Balance, Item Rate $


12-12-1919Proof of Translation AdjustmentProof of Translation Adjustment Translation Rate $

Net assets at beginning of year 50,000 1.20 60,000 Adjustment for changes in net assets position during year:

Net income for year 12,500 1.30 16,250 Dividends paid ( 6,250) 1.36 (8,500)

Net assets translated at: Rates during year 67,750

Rates at end of year 56,250 1.40 78,750 Change in other comprehensive income-- translation adjustment during year (net increase) 11,000 Accumulated other comprehensive income-- translation adjustment, 1/1 -0- Accumulated other comprehensive income-- translation adjustment, 12/31 (credit) 11,000

Peerless Products and SubsidiaryPeerless Products and SubsidiaryPeerless Products and SubsidiaryPeerless Products and Subsidiary


12-12-2020Translated Balance Sheet--12/31/X1Translated Balance Sheet--12/31/X1

Translated Balance Sheet, 12/31/X1

Net assets $78,750 Common stock 60,000Retained earnings 7,750 (net income less dividends)Accumulated other comprehensive

income--translation adjustment 11,000

$78,750 $78,750


12-12-2121Entries on Parent Company’s BooksEntries on Parent Company’s Books

On October 1, 20X1, Peerless Products received a dividend of DM 10,000 and

immediately converted it to U.S. dollars.

On October 1, 20X1, Peerless Products received a dividend of DM 10,000 and

immediately converted it to U.S. dollars.

October 1, 20X1

Cash 6,800Investment in German Company Stock 6,800

Dividend received from foreign subsidiary.

6,250 x .80 x $1.36 exchange rate



Equity in the net income of foreign subsidiary is recorded on December 31, 20X1.

Equity in the net income of foreign subsidiary is recorded on December 31, 20X1.

December 31, 20X1

Investment in German Company Stock 13,000Income from Subsidiary 13,000

Equity in net income of foreign subsidiary.

12,500 x .80 x $1.30 average exchange rate



Amortization of the parent’s portion of the differential assigned to the patent is recorded

on December 31, 20X1:

Amortization of the parent’s portion of the differential assigned to the patent is recorded

on December 31, 20X1:

December 31, 20X1

Income from Subsidiary 650Investment in German Company Stock 650

Amortize differential.

500 x $1.30



An entry is needed to record the portion of the translation adjustment on the increase in the

differential on the investment in foreign subsidiary.

An entry is needed to record the portion of the translation adjustment on the increase in the

differential on the investment in foreign subsidiary.

December 31, 20X1

Investment in German Company Stock 950Other Comprehensive Income--

Translation Adjustment 950Recognize translation adjustment onincrease in differential.



Peerless Products’ share of the translation adjustment is recorded on December 31, 20X1.

Peerless Products’ share of the translation adjustment is recorded on December 31, 20X1.

December 31, 20X1

Investment in German Company Stock 8,800Other Comprehensive Income--

Translation Adjustment 8,800Parent’s share of change in translationadjustment from translation of subsidiary’s accounts.

$11,000 x .80 ownership


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Peerless Special Eliminations Item Products Foods Debits Credits Consolidated

Income from Subsidiary 12,350

Dividends Declared (60,000 (8,500)

Investment in S 69,300

An entry is needed to eliminate the income from subsidiary.

An entry is needed to eliminate the income from subsidiary.

20X120X1

December 31, 20X1 WorkpaperDecember 31, 20X1 Workpaper

)


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Income from Subsidiary 12,350 (3) 12,350

Dividends Declared (60,000 (8,500) (3) 6,800

Investment in S 69,300 (3) 5,550


20X120X1

)


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Income to Noncontrolling Interest

Dividends Declared (60,000) (8,500) (3) 6,800

Noncontrolling Interest

An entry should be made to assign income to noncontrolling interest.

An entry should be made to assign income to noncontrolling interest.


20X120X1


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Income to Noncontrolling Interest (4) 3,250 3,250

Dividends Declared (60,000) (8,500) (3) 6,800

(4) 1,700 (60,000

Noncontrolling Interest (4) 1,550


20X120X1

)


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Other Comp Inc 9,750 11,000

Investment in S 69,300 (3) 5,550

NCI 1,550


20X120X1


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20X120X1

Other Comp Inc 9,750 11,000 8,800 590,0002,200

Investment in S 69,300 (3) 5,5508,800

NCI 1,5502,200


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An entry is required to eliminate the beginning investment balance.

An entry is required to eliminate the beginning investment balance.


20X120X1

Retained Earnings, Jan. 1 300,000 12,000Investment in Special FoodsStock 69,300 (3) 5,550

8,800

DifferentialCommon Stock 500,000 48,000Noncontrolling (4) 1,550 Interest 2,200


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Retained Earnings, Jan. 1 300,000 12,000 (5)12,000 300,000Investment in Special FoodsStock 69,300 (3) 5,550

8,800(5) 54,000

Differential 6,000Common Stock 500,000 48,000 (5)48,000 500,000Noncontrolling 1,550 Interest (4) 2,200

(5) 12 ,000 15,750


20X120X1


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An entry is needed to eliminate intercompany downstream sale of inventory.

An entry is needed to eliminate intercompany downstream sale of inventory.


20X120X1

Investment in Special FoodsStock 69,300 (3) 5,550

8,800(5) 54,000

Differential 6,000


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20X120X1

Investment in Special FoodsStock 69,300 (3) 5,550

8,800(5) 54,000

950Differential 6,000 6,950

950

Patent 6,950


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1. A foreign sales branch or subsidiary of a U.S. manufacturer which primarily takes orders from foreign customers for U.S.-manufactured goods, which bills and collects from foreign customers.

2. A foreign division, branch, or subsidiary which primarily manufactures a subassembly that is shipped to a U.S. plant.

3. A foreign shipping subsidiary which primarily transports ore from a U.S. Company’s foreign mines to the United States for processing.

4. A foreign subsidiary which is primarily a conduit for Eurodollar borrowing to finance operations in the United States

5. The foreign entity is located in a hyperinflationary economic environment.

Situations Requiring RemeasurementSituations Requiring Remeasurement


The major reason for remeasurement is Item 5.



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12-12-3838Remeasuring a Foreign Entity’s Trial BalanceRemeasuring a Foreign Entity’s Trial Balance

Income statement accounts:Weighted-average exchange rate, except revenue from nonmonetary items (historical exchange rate)

Weighted-average exchange rate, except costs related to nonmonetary items (historical exchange rate)

Revenue--

Expenses--


12-12-3939Remeasuring a Foreign Entity’s Trial BalanceRemeasuring a Foreign Entity’s Trial Balance

-Monetary accounts

-Nonmonetary accounts

-Equity capital accounts

-Retained earnings

Current exchange rate



Prior period’s balance plus income less dividends

Remeasurement gain or loss

Balance sheet accounts:

Included in net income


12-12-4040Chapter TwelveChapter Twelve

The The EndEnd


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multinational accounting: translation of foreign entity statements

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