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Chapter Ten

Translation of Foreign Currency

Financial Statements

Advanced Accounting, 15e

Hoyle | Schaefer | Doupnik
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Worldwide Consolidated Financial

Statements
To prepare worldwide consolidated financial
statements, a U.S. parent company must:
1. Convert the foreign GAAP financial statements of
its foreign operations into U.S. GAAP.
2. Translate the financial statements from the
foreign currency into U.S. dollars.

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Conversion and Translation Process

 This conversion and translation process is

required whether the foreign operation is a
branch, joint venture, majority-owned subsidiary,
or affiliate accounted for under the equity method.
 Two major related theoretical issues are:
1. Which translation method should be used (the
change according to ex rate fix invest in us dollar
current rate method or the temporal method).
2. Where the resulting translation adjustment
should be reported in the consolidated financial
hỏi xem bao giờ
vd: us comp mua fixed asset statements. dùng 1200
foreign operation in europe
-> suppose only investment is© McGraw
pieceHill of
LLC.
equip euro 1000 x 0.9 (ex rate) = 900 $ 10-3

now suppose ex rate = 1 euro = 1.2 $ -> ghi tỷ giá nào?

thực sự dùng đòng euro để mua -> gía tăng từ 900 -> 1200
còn nếu gửi 900 $ từ cty mẹ sang con để mua tsan -> thì giá trị stay 900 $
-> nếu vốn của bạn là 900$ thì vốn của bạn vẫn giữ là 900$ nhma nếu bạn dùng 1000 euro để invest vốn thì khoản đầu tư đã
tăng lên 1200$ chứ kp 900

Exchange Rates Used in Translation

 Two methods are used in the United States and most other
countries to translate foreign currency financial statements
into the parent company’s reporting currency.
 Two types of exchange rates are used to apply them:
1. Historical exchange rate: the exchange rate that existed
when a transaction occurred.
2. Current exchange rate: the exchange rate that exists at
the balance sheet date.
 Translation methods differ as to which balance sheet and
income statement accounts are translated at historical
exchange rates and at current exchange rates.
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Translation Adjustments and Exposure

 Assets translated at the current

profit exchange rate when
the foreign currency has appreciated generate a
positive (credit) translation adjustment.
 Liabilities translated at the current exchange rate
when the foreign currency has appreciated generate
a negative (debit) translation adjustment. loss
 Transaction exposure gives rise to foreign exchange
gains and losses that are ultimately realized in cash;
translation adjustments arising from balance sheet k dẫn tới in và out of cash
exposure do not directly result in cash inflows or
outflows.
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Reporting Translation Adjustments – The

Major Issue
vd bên trên euro tăng thì gain 300$
coi 900$ invest -> k gain loss
 Should the translation adjustment be treated as a
translation gain or loss reported in net income and
then closed to retained earnings?
 Should the translation adjustment be treated as a
direct adjustment to owners’ equity in
accumulated AOCI without affecting net income?
net income liên quan đến foreign currency trans exposure (sale, purchase hoạt động trans not
translation)
nếu gain/ loss thì cho vào AOCI

© McGraw Hill LLC. 10-6

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Learning Objective 10-1

Explain the theoretical underpinnings and the

limitations of the current rate and temporal
methods.

© McGraw Hill LLC. 10-7

Translation Methods: Temporal and

Current Rate

 Two major translation methods are currently

used:
1. The current rate method.
2. The temporal method.
 Each method is presented from the perspective
of a U.S.–based multinational company
translating foreign currency financial statements
into U.S. dollars.

© McGraw Hill LLC. 10-8

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Current Rate Method

 The basic assumption underlying the current rate

method is that a company’s net investment in a
foreign operation is exposed to foreign exchange risk.
 A foreign operation represents a foreign currency net
asset and if the foreign currency decreases in value
against the U.S. dollar, a decrease in the U.S. dollar
value of the foreign currency net asset occurs.
 It will be reflected by reporting a negative (debit
balance) translation adjustment in the consolidated
financial statements.

© McGraw Hill LLC. 10-9

Current Rate Method—Translation

Adjustment
 If the foreign currency increases in value, an increase in the
U.S. dollar value of the net asset occurs and will be reflected
through a positive (credit balance) translation adjustment.
rủi ro tỉ giá hối đoái
 To measure the net investment’s exposure to foreign
exchange risk, all assets and all liabilities of the foreign
operation are translated at the current exchange rate.
 Stockholders’ equity items are translated at historical rates.
 The balance sheet exposure under the current rate method is
equal to the foreign operation’s net asset (total assets minus
total liabilities) position.

© McGraw Hill LLC. 10-10

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Temporal Method
tsan giữ nguyên giá trị nguyên thủy là đồng đô
trans exposure -> day to day act liên quan monetary asset or lia
 The basic objective underlying the temporal method of
translation is to produce a set of U.S. dollar–translated
financial statements as if the foreign subsidiary had
actually used U.S. dollars in conducting its operations.
 This rule is consistent with the temporal method’s
underlying objective:
1. Assets and liabilities carried on the foreign operation’s
balance sheet at historical cost are translated at historical
exchange rates to yield an equivalent historical cost in
U.S. dollars.
2. Assets and liabilities carried at a current or future value
are translated at the current exchange rate to yield an
equivalent current value in U.S. dollars.
© McGraw Hill LLC. 10-11

nếu là trans exposure

những tsan như cash, market sercurity ar, nr , ap
,np thì cho thay đổi theo tỷ giá hối đoái

Temporal Method Translation

Adjustment

 The major difference between a translation adjustment

resulting from the use of the temporal method and a
foreign exchange gain or loss is the translation
adjustment is not necessarily realized through inflows or
outflows of cash.
 The U.S. dollar translation adjustment is realized only if:
1. The parent sends U.S. dollars to the foreign subsidiary to
pay all of its liabilities.
2. The subsidiary converts its receivables and marketable
securities into cash and then sends this amount plus the
amount in its cash account to the U.S. parent, which
converts it into U.S. dollars.
© McGraw Hill LLC. 10-12
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Current Rate vs. Temporal Method

Exhibit 10.1:

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Translation of Retained Earnings

 Stockholders’ equity items are translated at historical
exchange rates under both the current rate and temporal
methods. This creates somewhat of a problem in translating
retained earnings.
 Retained earnings is an accumulation of all of the net income
less dividends declared by a company since its inception.
 Keeping a record of the acquisition date exchange rates is
necessary when translating inventory, prepaid expenses,
property, plant and equipment, and intangible assets because
these assets, carried at historical cost, are translated at
historical exchange rates (not necessary under the current
rate method).
re = re (beg) + NI - div (rate by component)
© McGraw Hill LLC. 10-14
historical rate
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Translation of Retained Earnings

Process
 At the end of the first year of a company’s operations, foreign
currency (FC) retained earnings (R/E) is translated as follows:

 The translated retained earnings in Year 2 (and subsequent

years) are then determined as follows:

historical

10-15
© McGraw Hill LLC.

Calculation of Cost of Goods Sold

 Under the current rate method, Cost of Goods Sold

(COGS) in foreign currency (FC) is translated using
the average-for-the-period exchange rate (ER):
COGS in FC × Average ER = COGS in $

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Calculation of Cost of Goods Sold

(continued)
 Under the temporal method, no single exchange rate can be
used to directly translate COGS in FC into COGS in dollars.
 COGS must be decomposed into beginning inventory,
purchases, and ending inventory, and each component must
then be translated at its appropriate historical rate.
 When purchases can be assumed to have been made evenly
throughout 2024, the average 2024 exchange rate is used to
translate purchases:

© McGraw Hill LLC. 10-17

Inventory Translation—Current Rate

and Temporal Methods
 The current rate method requires ending inventory
on the foreign currency balance sheet to be
translated at the current exchange rate whether
carried at cost or a lower net realizable value.
 Application of the temporal method requires the
inventory’s foreign currency cost to be translated
into U.S. dollars at the historical exchange rate and
foreign currency net realizable value to be
translated into U.S. dollars at the current exchange
rate.

© McGraw Hill LLC. 10-18

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Property, Plant, and Equipment,

Depreciation, and Accumulated Depreciation

 The temporal method requires translating property,

plant, and equipment acquired at different times at
different (historical) exchange rates.
 The same is true for depreciation of property, plant,
and equipment and accumulated depreciation related
to property, plant, and equipment.
 In comparison with the current rate method, the
temporal method can require substantial additional
work for subsidiaries that own hundreds and
thousands of items of property, plant, and equipment.
current -> current rate
© McGraw Hill LLC. temporal -> historical rate 10-19

Gain or Loss on the Sale of an Asset

 The current rate method translates the gain on sale of
land at the exchange rate in effect at the date of sale.
 The temporal method cannot translate the gain on the
sale of land directly. The cash received and the cost of
the land sold must be translated into U.S. dollars
separately; the difference is the U.S. dollar value of the
gain.
 The temporal method translates the Cash account at
the exchange rate on the date of sale, and the Land
account is translated at the historical rate.

© McGraw Hill LLC. 10-20

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Translation Adjustment

 Two issues related to the translation of foreign currency:

1) The appropriate method for the translation of foreign
currency financial statements must be selected.
2) Where to report the resulting translation adjustment
in the consolidated financial statements must be
decided. There are two prevailing methods:
First method:
 Translation gain or loss considers a translation
adjustment to be a gain or loss similar to gains
and losses arising from foreign currency
transactions.

10-21
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Translation Gain or Loss

 The translation adjustment is reported in net

income in the period in which the fluctuation in
the exchange rate occurs.
 Problems with treating translation adjustments
as gains or losses in income is that the gain or
loss is unrealized; no cash inflow or outflow
accompanies it.
 The gain or loss could be inconsistent with
economic reality.

© McGraw Hill LLC. 10-22

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Cumulative Translation Adjustment

 The alternative to reporting the translation

adjustment as a gain or loss in net income is to
include it in Other Comprehensive Income.
 This treatment defers the gain or loss in
stockholders’ equity (Accumulated Other
Comprehensive Income or AOCI) until it is
realized in some way.
 As a balance sheet account, the cumulative
translation adjustment is not closed at the end of
an accounting period and fluctuates in amount
over time.
© McGraw Hill LLC. 10-23

Authoritative Guidance

 In 1975, the FASB issued SFAS 8, “Accounting for the

Translation of Foreign Currency Transactions and Foreign
Currency Financial Statements.” It mandated use of the
temporal method with all companies reporting translation
gains or losses in net income for all foreign operations.
 In 1981, after proposing new translation rules in two
exposure drafts, FASB issued SFAS 52, “Foreign Currency
Translation,” resulting in a complete overhaul of U.S. GAAP
on foreign currency translation.
 In 2009, it was incorporated into FASB Accounting
Standards Codification® (ASC) as part of Topic 830,
“Foreign Currency Matters.”
© McGraw Hill LLC. 10-24
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Learning Objective 10-2

Describe guidelines for determining a foreign

subsidiary’s functional currency and when
foreign currency financial statements are to be
translated using the current rate method and
when they are to be remeasured using the
temporal method.

© McGraw Hill LLC. 10-25

Determining the Appropriate

Translation Method
 Some subsidiaries are so closely tied to their U.S. parents,
no independ they use a U.S. dollar perspective to translation. Most of
their transactions are recorded in U.S. dollars using the
temporal method as if the foreign subsidiary had actually
used the dollar in carrying out its activities. Translation
gains and losses are reported in net income.
 Other subsidiaries operate relatively independent of their
parents; they use a local currency perspective and use the
current rate method for translation. Translation
adjustments should be reported as a separate component in
accumulated other comprehensive income on the balance
sheet.
nếu có independent dùng euro đê hoạt động exposure -> ghi aoci
© McGraw Hill LLC. 10-26
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Functional Currency
 To determine whether a subsidiary is integrated with
the parent or operates independently, we look at the
functional currency.
 A company’s functional currency is the primary
currency of the foreign entity’s operating environment.
Functional currency orientation results in the following
rule:

© McGraw Hill LLC. 10-27

Functional Currency Terminology

 Reporting currency: currency in which an entity prepares
its financial statements. U.S.–based companies use the
U.S. dollar.
 Remeasurement: if a foreign operation’s functional
currency is the U.S. dollar, the currency balances are
remeasured into U. S. dollars using the temporal method
resulting in remeasurement gains and losses.
 Translation adjustment: If a foreign currency is the
đồng euro
foreign operation’s functional currency, the currency
balances are translated using the current rate method
and a translation adjustment is reported on the balance
sheet.
© McGraw Hill LLC. 10-28
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Highly Inflationary Economies đọc thêm

 In highly inflationary economies, the temporal method

for translation is required with remeasurement gains or
losses reported in net income.
 A country has a highly inflationary economy when its
cumulative three-year inflation exceeds 100 percent.
With compounding, it equates to an average of
approximately 26 percent per year for three years in a
row.
 A country may or may not be classified as highly
inflationary, depending on its most recent three-year
experience with inflation.
© McGraw Hill LLC. 10-29

Indicators for Determining

Functional Currency
EXHIBIT 10.2:

temporal
current rate

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từ đây tự đọc

Appropriate Exchange Rate

 In some countries there is more than one rate at which
the local currency can be converted into foreign currency.
 There can be an “official rate” available from the Central
Bank, and a “parallel rate” available in the open
(sometimes illegal) market.
 In some countries there is one rate for certain types of
transactions and another rate for other transactions.
 The existence of multiple exchange rates raises the
question of which exchange rate to use in the financial
statement translation process.

© McGraw Hill LLC. 10-31

Appropriate Exchange Rate (Cont.)

 When the temporal method is used, ASC 830-20-30-3

indicates that the appropriate rate to use is the applicable
rate at which a transaction could be settled, which is a
matter for management judgment.
 When the current rate method is used, ASC 830-30-45-6
states that the exchange rate applicable for converting
dividend remittances into U.S. dollars should be used to
translate financial statements.
 Generally, this will be the official exchange rate
established by the Central Bank or other governmental
authority.
© McGraw Hill LLC. 10-32
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IFRS Standards

 IAS 21, “The Effects of Changes in Foreign

Exchange Rates,” generally follows the functional
currency approach introduced by the FASB.
 Under IAS 21, as is true under U.S. GAAP, a foreign
subsidiary’s financial statements are translated
using the current rate method when a foreign
currency is the functional currency and are
remeasured using the temporal method when the
parent company’s currency is the functional
currency.

© McGraw Hill LLC. 10-33

Significant Differences between

IFRS and U.S. GAAP
 Significant differences between IFRS and U.S. GAAP
relate to:
a. The hierarchy of factors used to determine the
functional currency.
b. The method used to translate the foreign
currency statements of a subsidiary located in a
hyperinflationary country.
 Factors to be considered in determining functional
currency of a foreign subsidiary in IAS 21 generally are
consistent with U.S. GAAP functional currency
indicators.
© McGraw Hill LLC. 10-34
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Primary Factors Concerning

IFRS and Translations
 Primary factors to be considered are:
a. The currency that mainly influences sales price.
b. The currency of the country whose competitive forces
and regulations mainly determine sales price.
c. The currency that mainly influences labor, material,
and other costs of providing goods and services.
 Other factors to be considered are:
a. Currency used when generating funds from financing
activities.
b. Currency in which receipts from operating activities
are retained.

© McGraw Hill LLC. 10-35

Other Factors Concerning

IFRS and Translations (continued)
 Other factors to be considered are: (continued)
c. Whether the foreign operation carries out its
activities as an extension of the parent or with a
significant degree of autonomy.
d. Volume of transactions with the parent.
e. Whether cash flows generated by the foreign
operation directly affect the cash flows of the
parent.
f. Whether cash flows generated by the foreign
operation are sufficient to service its debt.

© McGraw Hill LLC. 10-36

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International Accounting Standard 21

(IAS 21)
 IAS 21 states that when indicators (factors) are mixed
and the functional currency is not obvious, the parent
must give priority to the primary indicators in
determining the foreign entity’s functional currency.
 U.S. GAAP is silent with respect to weights to be
assigned to various indicators to determine the
functional currency and there is no hierarchy provided.
 Under IAS 21, financial statements of a foreign
subsidiary located in a hyperinflationary economy are
translated into the parent’s currency using a two-step
process.

© McGraw Hill LLC. 10-37

IFRS and Translations

and Hyperinflation
If a foreign subsidiary is located in a hyperinflationary
economy, neither the temporal method nor the current
rate method is used, but rather a 2-step process:
1. The financial statements are restated for local
inflation in accordance with IAS 29, “Financial
Reporting in Hyperinflationary Economies.”
2. Each financial statement line item, which has been
restated for local inflation, is translated using the
current exchange rate.
 Balance sheet accounts, including stockholders’
equity, are translated at the current exchange rate; a
translation adjustment does not exist.
© McGraw Hill LLC. 10-38
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Characteristics That
Indicate Hyperinflation
 IAS 29 characteristics that indicate hyperinflation are:
(a) The general population prefers to keep its wealth in a
relatively stable foreign currency.
(b) Interest rates, wages, and other prices are linked to a
price index.
(c) The cumulative rate of inflation over three years is
approaching, or exceeds, 100 percent.
 Under U.S. GAAP, financial statements of a foreign
subsidiary located in a highly inflationary economy must be
translated using the temporal method. High inflation is
defined as a cumulative three-year inflation of 100 percent
or more.
© McGraw Hill LLC. 10-39

Learning Objective 10-3

Translate a foreign subsidiary’s financial

statements into its parent’s reporting currency
using the current rate method and calculate
the related translation adjustment.

© McGraw Hill LLC. 10-40

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Translation of Financial Statements—

Current Rate Method

 First, in translating foreign currency financial

statements, determine the functional currency.
 The amount of the cumulative translation adjustment
can be determined indirectly as the amount needed to
keep the translated balance sheet in balance.
 Translate the income statement, then the statement of
retained earnings, and then the balance sheet to
facilitate the translation adjustment reported in the
balance sheet.

© McGraw Hill LLC. 10-41

Current Rate Method Translation

of Income Statement
 All revenues and expenses are translated at the
exchange rate in effect at the date of accounting
recognition.
 Use the weighted average exchange rate if each
revenue and expense is recognized evenly throughout
the year.
 When an income account, such as a gain or loss,
occurs at a specific point in time, the exchange rate as
of that date is applied.

© McGraw Hill LLC. 10-42

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Current Rate Method Translation

of Income Statement (continued)
 Depreciation and amortization expenses are
translated at the average rate for the year.
 These expenses accrue evenly throughout the year
even though the journal entry to recognize them
might not have been made until year-end for
convenience.
 The translated amount of net income for the year is
taken from the income statement and entered on the
statement of retained earnings.
 Dividends are translated at the exchange rate on the
date of declaration.
© McGraw Hill LLC. 10-43

Translation Adjustments—Balance
Sheet
 To calculate a translation adjustment, consider the impact of
exchange rate changes on the beginning balance and
subsequent changes in the net asset position as follows:
1. Translate the net asset balance of the subsidiary at the
beginning of the year at the exchange rate in effect that
date.
2. Translate individual increases and decreases in the net
asset balance during the year at the rates in effect when
those increases and decreases occurred.
 Events such as net income, dividends, stock issuance, and
acquisition of treasury stock change net assets; purchase of
equipment or payment of a liability does not.

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Translation Adjustments—
Balance Sheet (continued)
3. Combine translated beginning net asset balance
value and the translated value of the individual
changes to arrive at the relative value of the net
assets being held prior to the impact of any
exchange rate fluctuations during the year.
4. Translate the ending net asset balance at the
current exchange rate to determine the reported
value after all exchange rate changes have
occurred.

© McGraw Hill LLC. 10-45

Translation Adjustments—Balance
Sheet (concluded)
5. Compare the translated value of the net assets prior to
any rate changes with the ending translated value. The
difference is the result of exchange rate changes during
the period.
 If translated value of net assets prior to rate changes is higher
than ending translated value, a negative (debit) translation
adjustment exists.
 If ending translated value is higher than translated value of net
assets prior to rate changes, a positive (credit) translation
adjustment results.

© McGraw Hill LLC. 10-46

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Translation of the Statement of Cash

Flows
 The current rate method requires translating all operating items in the
statement of cash flows at the average-for-the-period exchange rate
(This is the same rate used for translating income statement items).
Any effect of exchange rate change on cash represents that part of the
translation adjustment attributable to a change in Cash and is derived as a
balancing amount.
 Although the ending balances in Accounts Receivable, Inventory, and
Accounts Payable on the balance sheet are translated at the current
exchange rate, the average rate is used for the changes in these
accounts because those changes are caused by operating activities
(such as sales and purchases) that are translated at the average rate.
 Investing and financing activities are translated at the exchange rate
on the day the activity took place

© McGraw Hill LLC. 10-47

Learning Objective 10-4

Remeasure a foreign subsidiary’s financial

statements using the temporal method and
calculate the associated remeasurement gain or
loss.

© McGraw Hill LLC. 10-48

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Remeasurement

 If the sub’s functional currency is the U.S. dollar,

then any balances denominated in the local currency
must be remeasured.
 Remeasurement requires the application of the
temporal method.
 The remeasurement gain or loss must be reported in
income.
 To ensure remeasurement gain or loss is reported in
income, it is easiest to remeasure the balance sheet
first.

© McGraw Hill LLC. 10-49

Remeasurement: Balance Sheet—

Temporal Method
 The temporal method remeasures cash,
receivables, and liabilities into U.S. dollars using
the current exchange rate.
 Inventory, property and equipment, patents, and
contributed capital accounts are remeasured at
historical rates, resulting in differences in total
assets and liabilities plus equity which must be
reconciled, resulting in a remeasurement gain or
loss.

© McGraw Hill LLC. 10-50

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Remeasurement: Income Statement

Gain or Loss— Temporal Method

 A remeasurement gain/loss is computed by

translating the beginning net monetary asset
position and subsequent changes in monetary
items at appropriate exchange rates.
 Compare that amount with the dollar value of
net monetary liabilities at year-end based on the
current exchange rate.

© McGraw Hill LLC. 10-51

Remeasurement: Income Statement Gain

or Loss— Temporal Method (continued)

 A net monetary liability position arises over the

course of the year if the foreign currency
appreciation coupled with an increase in net
monetary liabilities generates a remeasurement loss
for the year. If the opposite occurs, a gain is
recorded.
 The ending balances in retained earnings on the
balance sheet and on the statement of retained
earnings must reconcile with one another.

© McGraw Hill LLC. 10-52

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Temporal Method: Statement of Cash

Flows
 In remeasuring the statement of cash flows, the U.S.
dollar value for net income is taken from the remeasured
income statement.
 Depreciation and amortization are remeasured at the
rates used in the income statement, and the
remeasurement loss, a noncash item, is added back to net
income.
 Increases in accounts receivable and accounts payable,
related to sales and purchases, are remeasured at the
average rate. The increase in inventory is determined by
the remeasurement of cost of goods sold.
© McGraw Hill LLC. 10-53

Nonlocal Currency Balances

 If any accounts of the foreign subsidiary are

denominated in a currency other than the local
currency, they would first have to be restated
into the local currency.
 Both the foreign currency balance and any
related foreign exchange gain or loss would
then be translated (or remeasured) into U.S.
dollars.

© McGraw Hill LLC. 10-54

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Comparison of Results: Determination

of Subsidiary’s Functional Currency

 The determination of the foreign subsidiary’s

functional currency (and the use of different
translation methods) can have a significant
impact on consolidated financial statements.
 The current rate method does not always
result in higher net income and a higher
amount of equity than the temporal method.

© McGraw Hill LLC. 10-55

Comparison of Results—
Underlying Relationships
 The temporal method distorts all of the ratios measured in
the foreign currency. The subsidiary appears to be less
liquid, more highly leveraged, and more profitable than it
does in foreign currency terms.
 The current rate method maintains the first three ratios but
distorts return on equity, because income was translated at
the average-for-the-period exchange rate, and total equity
was translated at the current exchange rate.
 Use of the average rate for income and the current rate for
assets and liabilities distorts any ratio combining balance
sheet and income statement figures, such as turnover ratios.

© McGraw Hill LLC. 10-56

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Learning Objective 10-5

Understand the rationale for hedging balance

sheet exposure to foreign exchange risk and
describe the treatment of gains and losses on
hedges used for this purpose.

© McGraw Hill LLC. 10-57

Hedging Balance Sheet Exposure

 If the U.S. dollar is the functional currency or a

foreign operation is located in a highly inflationary
economy, remeasurement gains and losses are reported
in the consolidated income statement.
 If the foreign currency is the functional currency,
negative translation adjustments have an adverse
impact on the debt-to-equity ratio.
 Translation adjustments and remeasurement gains or
losses are functions of two factors:
1. Changes in the exchange rate.
2. Balance sheet exposure.
© McGraw Hill LLC. 10-58
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Hedging Balance Sheet Exposure

(continued)
 A company has little influence on exchange rates, but
parent companies can use several techniques to hedge
the balance sheet exposures of their foreign operations.
 Balance sheet exposure can be hedged through
derivatives (forward contracts or foreign currency
options) or through nonderivative instruments (foreign
currency borrowings).
 A hedge of a net investment in a foreign operation
eliminates the possibility of a negative translation
adjustment in Accumulated Other Comprehensive
Income, but gains and losses realized in cash can result.
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International Financial Reporting

Standard 9—Financial Instruments
 IFRS 9 allows hedge accounting for hedges of net
investments in a foreign operation.
 A gain or loss on the hedging instrument is recognized
in Accumulated Other Comprehensive Income (AOCI)
along with the translation adjustment being hedged.
 Under both IFRS and U.S. GAAP, the cumulative
translation adjustment and cumulative net gain or loss
on the net investment hedge are transferred from
AOCI to net income when the foreign subsidiary is
sold or otherwise disposed of.

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Disclosures Related to Translation

 Current standards require firms to present an analysis

of the change in the cumulative translation adjustment
account in the financial statements or notes thereto.
 Many companies comply with this requirement
directly in their statement of comprehensive income.
Other companies provide separate disclosure in the
notes.
 Although not specifically required to do so, many
companies describe their translation procedures in
their “summary of significant accounting policies”
in the notes to the financial statements.
© McGraw Hill LLC. 10-61

Learning Objective 10-6

Prepare a consolidation worksheet for a parent

and its foreign subsidiary.

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Consolidation of a Foreign Subsidiary:

Part I
On January 1, 2023, Altman, Inc., a U.S.-based manufacturing firm, acquired 100
percent of Bradford Ltd. in Great Britain. Altman paid 25 million British pounds
(£25,000,000), which equaled Bradford’s fair value.

Bradford’s balance sheet on January 1, 2023:

Cash . . . . . . . . . . . . . . . . . . . . . . . . £ 925,000 Accounts payable .. £ 675,000
Accounts receivable . . . . . . . . . . . . 1,400,000 Long-term debt . . . . .4,000,000
Inventory . . . . . . . . . . . . . . . . . . . . . 6,050,000 Common stock. . . . . 20,000,000
Property, plant & equipment (net) 19,000,000 Retained earnings . . 2,700,000
Total . . . . . . . . . . . . . . . . . . . . .£ 27,375,000 Total . . . . . . . £ 27,375,000

 The £2,300,000 excess of fair value over book value results from
undervalued land (part of Property, plant & equipment) and therefore is
not subject to amortization.
 Altman uses the equity method to account for its investment in Bradford.
© McGraw Hill LLC. 10-63

Consolidation of a Foreign Subsidiary:

Part 2
On December 31, 2024, two years after the acquisition date,
Bradford submitted the following trial balance for
consolidation (credit balances are in parentheses):

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Consolidation of a Foreign Subsidiary:

Part 3
 Although Bradford generated net income of £1,100,000 in
2023, it neither declared nor paid dividends that year.
 Other than the payment of dividends in 2024, no intra-entity
transactions occurred between the two affiliates.
 Altman has determined the British pound to be Bradford’s
functional currency.
Relevant exchange rates for the British pound were:

© McGraw Hill LLC. 10-65

Consolidation of a Foreign Subsidiary:

Part 4
 The initial step in consolidating the foreign
subsidiary is to translate its trial balance from
British pounds into U.S. dollars.
 Because the British pound has been determined to
be the functional currency, this translation uses the
current rate method.
 The historical exchange rate for translating
Bradford’s common stock and January 1, 2023,
retained earnings is the exchange rate that existed
at the acquisition date—$1.51.
© McGraw Hill LLC. 10-66
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Consolidation of a Foreign Subsidiary:

Part 5
Translation of Foreign Subsidiary Trial Balance

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Consolidation of a Foreign Subsidiary: Part 6

 The translation adjustment in 2023 is positive because the

British pound appreciated against the U.S. dollar that year.
 The translation adjustment in 2024 is negative because the
British pound depreciated against the U.S. dollar that year.
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Determination of Balance in Investment

 The translation adjustment calculated each year is included in the
Investment in Bradford account to update the foreign currency
investment to its U.S. dollar equivalent. The counterpart is
recorded as a translation adjustment on Altman’s books:

 As a result of these two journal entries, Altman has a cumulative

translation adjustment of $401,500 on its separate balance sheet.
© McGraw Hill LLC. 10-69

Investment in Foreign Subsidiary Account

 The carrying value of the investment account in U.S. dollar

terms at December 31, 2024, is determined as follows:

 In addition to Altman’s $44,783,000 investment in Bradford, it

has equity income on its December 31, 2024, trial balance in
the amount of $6,122,500.
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Consolidation Worksheet with Foreign Subsidiary

Exhibit 10.11

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Consolidation Worksheet—Excess of Fair

Value over Book Value
 When the foreign currency is the functional currency, the
excess is translated at the current exchange rate with a
resulting translation adjustment.
 The excess is not carried on either the parent’s or the
subsidiary’s books but is recognized only in the
consolidation worksheet.

© McGraw Hill LLC. 10-72