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Baker / Lembke / King

13
Multinational
Accounting:
Translation of
Foreign Entity
Statements
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© The McGraw-Hill
Companies,
Companies,
Inc., 1999 Inc., 1999
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Differences in Accounting Principles

Four major models of accounting

The U.S. model, which

focuses on the
information needs of the
common stockholder
through the application of
generally accepted
accounting principles.

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Differences in Accounting Principles

Four major models of accounting

The British model, which

focuses on the
information needs of
bondholders, creditors,
and preferred
stockholders.

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Differences in Accounting Principles

Four major models of accounting

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

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Differences in Accounting Principles

Four major models of accounting

The German and

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

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Determining the Functional Currency
FASB 52 defines it as the
currency of the primary
What is economic environment in
functional which the entity operates.
currency?

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Determining the Functional Currency

Normally, that is the currency

in which the entity primarily
generates and expends cash.

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Translation versus Remeasurement
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.

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Translating Foreign Entity’s Trail Balance
Income statement accounts:
- Revenue and expenses
Balance sheet accounts:
- Assets and liabilities
- Stockholders’ equity
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Generally, weighted average exchange
rate for the period covered by the
statement
Current exchange rate on balance
sheet date
Historical exchange rate

Cumulative Translation
Adjustment To Accumulated Other
Comprehensive Income

(Note: The periodic change in Cumulative Translation

Adjustment is a component of Other Comprehensive Income.)
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Translation and Consolidation-Jan. 1, 19X1

On January 1, 19X1, Peerless Products (U.S.)

purchases 80 percent of the outstanding capital stock
of German Company (Germany) for $54,000.

Investment cost $54,000

Book value of investment:
Common stock $48,000
Retained earnings 12,000
Total $60,000
Percent acquired by Peerless x .80 (48,000)
Difference attributed to goodwill $ 6,000

The local currency for German Corporation is the mark

(DM), which is also the functional currency.
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Translation and Consolidation-Jan. 1, 19X1

Peerless German Eliminations

Item Products Company Debits Credits Consolidated
Investment in
German Co.
Stock 54,000
Differential

Common Stock 500,000 48,000

Retained
Earnings 300,000 12,000
Noncontrolling
Interest

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Translation and Consolidation-Jan. 1, 19X1

Peerless German Eliminations

Item Products Company Debits Credits Consolidated
Investment in
German Co.
Stock 54,000 54,000
Differential 6,000

Common Stock 500,000 48,000 48,000 500,000

Retained
Earnings 300,000 12,000 12,000 300,000
Noncontrolling
Interest 12,000 12,000

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

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Translation and Consolidation-Jan. 1, 19X1

Peerless German Eliminations

Item Products Company Debits Credits Consolidated
Investment in
German Co.
Stock 54,000 54,000
Differential 6,000 6,000
Goodwill 6,000 6,000
Common Stock 500,000 48,000 48,000 500,000
Retained
Earnings 300,000 12,000 12,000 300,000
Noncontrolling
Interest 12,000 12,000

Assign differential

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Translation Trial Balance--Dec. 31, 19X1
Balance Exchange Balance,
Item DM Rate $

Cash 21,500 .70 15,050

Foreign Currency Units Current
6,000
exchange
.70 4,200
Receivables 21,000
rate on balance .70 14,700
Inventory 10,000
sheet date .70 7,000
Plant and Equipment 100,000 .70 70,000
Cost of Goods Sold 45,000 .65 29,250
Operating Expenses Weighted-
29,000 .65 18,850
average
Foreign Currency
exchange rate
Historical
Transaction Loss 1,000
exchange rate on
.65 650
Dividends Paid 12,500
date of .68 8,500
Total Debits 246,000
declaration 168,200

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Translation Trial Balance--Dec. 31, 19X1
Balance Exchange Balance,
Item DM Rate $

Accumulated DepreciationCurrent
15,000exchange .70 10,500
Accounts Payable rate6,000
on balance .70 4,200
Historical
sheet date
Bonds Payable 25,000
exchange rate on
.70 17,500
From the
Common Stock 80,000
date of acquiring
beginning of year .60 48,000
Retained Earnings (1/1) 20,000
sub
translation
Weighted
* 12,000
Sales 100,000
workpaper
average .65 65,000
Total 246,000
exchange rate 157,200
Accumulated Other
Comprehensive Income--
Translation Adjustment 11,000
Total Credits 168,200
*From the January 1, 19X1, translation workpaper.
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Proof of Translation Adjustment
Translation
DM Rate $

Net assets at beginning of year 100,000 .60 60,000

Adjustment for changes in net assets
position during year:
Net income for year 25,000 .65 16,250
Dividends paid (12,500) .68 (8,500)
Net assets translated at:
Rates during year 67,750
Rates at end of year 112,500 .70 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) © The McGraw-Hill Companies, 11,000
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Entries on Parent Company’s Books

On October 1, 19X1, Peerless Products received a dividend

of DM 10,000 and immediately converted it to U.S. dollars.

October 1, 19X1
Cash 6,800
Investment in German Company Stock 6,800

DM 10,000 x $.68
exchange rate on
date of declaration

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Entries on Parent Company’s Books

Equity in the net income of foreign subsidiary is

recorded on December 31, 19X1.

December 31, 19X1

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

DM 25,000 x .80
ownership x $.65
weighted average
exchange rate

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Entries on Parent Company’s Books

Peerless Products’ share of the translation

adjustment is recorded on December 31, 19X1.

December 31, 19X1

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

$11,000 x .80
ownership

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Entries on Parent Company’s Books

Peerless Products’ amortization of the goodwill

from the purchase of German Company Stock.

December 31, 19X1

Income from Subsidiary 650
Investment in German Company Stock 650

DM10,000/10 years =
DM1,000 x $.65
average exchange
rate

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Entries on Parent Company’s Books

Peerless Products’ recognition of translation

adjustment from increase in differential.

December 31, 19X1

Investment in German Company 950
Other Comprehensive Income--
Translation Adjustment 950
Adjustment to
proper balance
sheet amount of
differential of
$6,300

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Remeasurement Method Applicability

 When the foreign entity’s functional

currency is not its local currency
 When foreign entity is located in a
hyperinflationary economic environment
- Cumulative three-year inflation
exceeding 100 percent

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Remeasuring a Foreign Entity’s Trial Balance

Income statement accounts:

- Revenue Weighted-average exchange rate,
except revenue from nonmonetary
items (historical exchange rate)
- Expenses Weighted-average exchange rate,
except costs related to
nonmonetary items (historical
Balance sheet accounts: exchange rate)
-Monetary accounts Current exchange rate
-Nonmonetary accounts Historical exchange rate
-Equity capital accounts Historical exchange rate
Retained earnings Prior period’s balance plus income
less dividends
Remeasurement gain or loss Included in net income
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Chapter Thirteen

The
End

Irwin/McGraw-Hill © The McGraw-Hill Companies, Inc., 1999