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Chapter 6
Foreign Currency Translation
Discussion Questions Solutions
1. Foreign currency translation is the process of restating a foreign account balance from one
currency to another. Foreign currency conversion is the process of physically exchanging one
2. In the foreign exchange spot market, currencies bought and sold must be delivered immediately,
normally within 2 business days. Thus a Singaporean tourist buying U.S. dollars at before boarding a plane for New York would hand over Singapore dollars and receive the equivalent amount in U.S. dollars. The forward market handles exchange a fixed amount of one currency for another on an agreed date in the example, a French manufacturer exporting goods invoiced in euros to a Japanese day credit terms would buy a forward contract to sell yen for euros 2 months in Transactions in the swap market involve the simultaneous purchase (or sale) of the spot market and the sale (or purchase) of the same currency in the forward Canadian investor wishing to take advantage of higher interest rates on 6-month the airport immediately agreements to future. For importer on 60- the future. one currency in market. Thus, a Treasury bills in
currency for another.
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3. The question refers to alternative exchange rates that are used to translate foreign financial
statements. The current rate is the exchange rate at the financial statement date. sometimes called the year-end or closing rate. The historical rate is the exchange of the underlying transaction. The average rate is the average of various fiscal period. Since the average rate normally is used to translate income often weighted to reflect any seasonal changes in the volume of transactions
Translation gains and losses do not occur if exchange rates do not change.
It is
rate at the time
exchange rates during a statement items, it is during the period. However, if
exchange rates change, the use of current and average rates causes translation These do not occur when the historical rate is used because the same (constant) period.
gains and losses. rate is used each
the United States would buy U.S. dollars with Canadian dollars in the spot market the United States. To guard against a fall in the value of the U.S. dollar before the U.S. dollar proceeds are converted back to Canadian dollars), the Canadian simultaneously enter into a forward contract to sell U.S. dollars for Canadian the future at today s forward exchange rate.
and invest in maturity (when investor would dollars 6 months in
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4. In this example, the Mexican Affiliate s Canadian dollar loan is denominated in Canadian dollars.
5. A transaction gain or loss occurs when a foreign currency transaction, e.g., a foreign currency
6. It is not possible to combine, add, or subtract accounting measurements expressed in different
currencies; thus, it is necessary to translate those accounts that are measured or foreign currency into a single reporting currency. Foreign currency translation restatement or remeasurement. In restatement, the local (functional) currency is of measure; that is, the translation process multiplies the financial results and
denominated in a can involve kept as the unit relationships in the
borrowing, is settled at a different exchange rate than that which prevailed when was originally incurred. In this case there is an exchange of one currency for translation gain or loss, on the other hand, is simply the result of a restatement no physical exchange of currencies involved.
the transaction another. A process. There is
However, because the Mexican affiliate’s functional currency is U.S. dollars, the of the Canadian dollar borrowing would be remeasured in U.S. dollars prior to the Mexican affiliate’s functional currency were the peso, the Canadian dollar remeasured in pesos before being translated to U.S. dollars.
peso equivalent consolidation. If loan would be
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7. Major advantages and limitations of each of the major translation methods follow.
Current Rate Method Advantages:
a. Retains the initial relationships in the foreign currency statements. b. Simple to apply. Limitations:
a. Violates the basic purpose of consolidation, which is to present the results of a parent and its subsidiaries as if they were a single entity. b. Inconsistent with historical cost.
c. Presumes that all local assets and liabilities are subject to exchange risk.
d. While stockholders equity adjustments shield an MNC s bottom line from translation gains and losses, such adjustments could distort certain financial ratios and be confusing.
Current-noncurrent Method Advantages:
a. Distortions in translated gross margins are reduced as inventories and translated at the current rate.
b. Reported earnings are shielded from the distorting effects of currency fluctuations as excess translation gains are deferred and used to offset future translation losses. Limitations:
a. Uses balance sheet classification as basis for translation.
local currency accounts by a constant, the current rate. In contrast,
local currency results as if the underlying transactions had taken place in the (functional) currency of the parent company; for example, it changes the unit of foreign subsidiary from its local (foreign) currency to the U.S. dollar.
remeasurement translates reporting measure of a
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b. Assumes all current assets are exposed to exchange risk regardless of their form. c. Assumes long-term debt is sheltered from exchange rate risk. Monetary-nonmonetary Method Advantages:
a. Reflects changes in domestic currency equivalent of long-term debt on a timely basis. Limitations:
a. Assumes that only monetary assets and liabilities are subject to exchange rate risk. b. Exchange rate changes distort profit margins as sales transacted at current prices are matched against cost of sales measured at historical prices. c. Uses balance sheet classification as basis for translation.
d. Nonmonetary items stated at current market values are translated at historical rates. Temporal Method Advantages:
a. Theoretically valid: compatible with any accounting measurement method.
b. Has the effect of translating foreign subsidiaries operations as if they were originally transacted in the home currency, which is desirable for foreign operations that are extensions of the parent’s activities. Limitation:
a. A company increases its earnings volatility by recognizing translation gains and losses currently.
In arguing for one translation method over another, your students should eventually realize that, in the present state of the art, there is probably no one translation method that is appropriate for all circumstances in which translations occur and for all purposes that
translation serves. It is probably more fruitful to have students identify circumstances in which they think one translation method is more appropriate than another.
8. The current rate method is appropriate when the foreign entity being
consolidated is largely independent of the parent company. Conditions which would justify this methodology is when the foreign affiliate tends to generate and expend cash flows in the local currency, sells a product locally so that its
国际会计第七版英文版课后答案解析(第六章)
