Reading 16: Multinational Operations Flashcards
Financial Statement Translations
• Converting the accounts of overseas subsidiaries to reporting currency. • Three Step Process ○ Identify Subs functional currency ○ Convert foreign currency balances to functional currency Convert Functional currency balances to parents reporting currency.
Foreign Currency Translations Definitions
• Functional Currency - currency of primary economic environment in which the firm operates • Presentational currency - Parent reporting currency Local Currency - Currency of the country where the subsidiary is located
Temporal Method (Key Facts)
• Alternative Names - Remeasurements, Monetary Method / Non-Monetary Method Views the overseas operations as an extension of the parents company activities
Temporal Method (Classifications)
• Monetary Assets and Lab (Cash/ AR/AP/STD and LTD) = Current Rate • Other Assets and Liab = Historical Rate • Capital Stock = Historical Rate • Total Equity = Mixed Rate • Revenues and Expenses = Average Rate • COGS, Depreciation and Amortization = Historical Rate Dividends = Historical Rate when Declared
Temporal Method (Process)
• Calculate Total Assets • Produce SH Equity and Liab with RE to be the Plug figure • Drive Net Income • Produce Income statement(NI from I/S will differ from NI in Retained Earnings) Reconcile by adding Exchange gains or losses
Current Rate Method
• Alternative Name: Translation Method • Views the overseas operations as an investment • All assets and Liab are exposed to Exchange Risk • Exchange gains and Losses are unrealized and stored in equity until the overseas operations is disposed off CTA realized in income statement on disposal.
Current Rate Method (Classifications)
• All Assets and Liab = Current Rate • Capital Stock = Historical Rate • Retained Earnings = Accumulated Average Rate • Cumulative FX gains and losses = plug figure • Dividends = Historical Rate when declared • Aggregate Stock Holders Equity at Current Rate • Revenues and Expense = Average Rate
Applying the Current Rate Method
• Convert All Income statement at Average Rate • Compute Closing Retained Earnings • Convert All Balance Sheet items at Current Rate (Balance Sheet will not balance) • Plug in Cumulative Translation Gain / loss to balance Exchange gain / loss = change in Cumulative Translation Gain/Loss
Calculating Currency Exposure
• Temporal Method : (Cash+ AR) - (AP + Curr Debt+ LTD) Current Rate: Assets - Liabilities = Shareholder Equity
Translated (Current Rate) Vs LC Ratio
• No Change for pure income statement and balance sheet ratios • Mixed ratios are distorted FX rate changes affect consolidated ratios even when no real change occurs
Compare Temporal to Current Rate Ratio
• More difficult to analyze. • Best to analyze individually • Process ○ Step 1: LC Appreciating or Depreciating ○ Step 2: Examine Numerator. Translated at which rate. Will it be larger or smaller ○ Step 3: Examine Denominator: Process same as numerator Step 4: Determine impact on ratio.
Problem : Temporal Method
Solution Temporal Method
Problem : Current Rate Method
Solution Current Rate Method
