Chapter 10, Problem 5DYS

a.

To determine

Use an electronic spreadsheet to translate the foreign subsidiary’s FC financial statements into U.S. dollars at December 31, 2017, in accordance with U.S. GAAP. Insert a row in the spreadsheet after retained earnings and before total liabilities and stockholders’ equity for the cumulative translation adjustment. Calculate the translation adjustment separately to verify the amount obtained as a balancing figure in the translation worksheet.

Explanation of Solution

Translation of the foreign subsidiary’s FC financial statements into U.S. dollars at December 31, 2017, in accordance with U.S. GAAP:

		Temporal Method			Current Rate Method
December 31, 2017	FC	Rate		USD	Rate		USD
Sales	5000	$0.45	A	$2,250.00	$0.45	A	$2,250.00
Cost of goods sold	-3000			($1,360.00)	$0.45	A	($1,350.00)
Gross profit	2000			$890.00			$900.00
Selling expenses	-400	$0.45	A	($180.00)	$0.45		($180.00)
Depreciation expense	-600	$0.50	H	($300.00)	$0.45	A	($270.00)
Re-measurement gain/loss	0			$355.00			$0.00
Income before tax	1000			$765.00			$450.00
Income taxes	-300	$0.45	A	($135.00)	$0.45	A	($135.00)
Net income	700			$630.00			$315.00
Retained earnings, 01/01/17	0			$0.00			$0.00
Retained earnings, 12/31/17	700			$630.00			$315.00
Cash	1000	$0.38	C	$380.00	$0.38	C	$380.00
Inventory	2000	$0.43	H	$860.00	$0.38	C	$760.00
Fixed assets	6000	$0.50	H	$3,000.00	$0.38	C	$2,280.00
Less: Accumulated Depreciation	-600	$0.50	H	($300.00)	$0.38	C	($228.00)
Total assets	8400			$3,940.00			$3,192.00
Current Liabilities	1500	$0.38	C	$570.00	$0.38	C	$570.00
Long-term debt	3000	$0.38	C	$1,140.00	$0.38	C	$1,140.00
Contributed Capital	3200	$0.50	H	$1,600.00	$0.50	H	$1,600.00
Cumulative transaction adjustment	0			$0.00			($433.00)
Retained earnings	700			$630.00			$315.00
Total liability and stock equity	8400			$3,940.00			$3,192.00

Table: (1)

Exchange Rates		Temporal method cost of goods sold
0/01/2017	$0.50	B1		$1,000.00	$0.50	H	$500.00
Average 2017	$0.45	P		$4,000.00	$0.43	H	$1,720.00
December 31, 2017	$0.38	E1		($2,000.00)	$0.43	H	($860.00)
Inventory Purchases	$0.43			$3,000.00			$1,360.00

Table: (2)

Computation of translation adjustment:

	FC		USD
Net assets on 01/01/17	$    3,200	$   0.50	$     1,600
Net income: 2017	$       700	$   0.45	$        315
Net assets on 12/31/17	$    3,900		$     1,915
Net assets on 12/31/17
at current exchange rate	$    3,900	$   0.38	$     1,482
Translation adjustment (negative)			$        433

Table: (3)

Working note:

• A stands for Average Exchange Rate
• C stands for Current Exchange Rate
• H stands for Historical Exchange Rate

b.

To determine

Use an electronic spreadsheet to re-measure the foreign subsidiary’s FC financial statements in U.S. dollars at December 31, 2017, assuming that the U.S. dollar is the subsidiary’s functional currency. Insert a row in the spreadsheet after depreciation expense and before income before taxes for the re-measurement gain (loss).

Explanation of Solution

Computation of translation adjustment:

	FC		USD
Net assets on 01/01/17	$    3,200	$   0.50	$     1,600
Net income: 2017	$       700	$   0.45	$        315
Net assets on 12/31/17	$    3,900		$     1,915
Net assets on 12/31/17
at current exchange rate	$    3,900	$   0.38	$     1,482
Translation adjustment (negative)			$        433

Table: (4)

c.

To determine

Prepare a report for James Benjamin, CEO of Charles Edward, summarizing the differences that will be reported in the company’s 2017 consolidated financial statements because the FC, rather than the U.S. dollar, is the foreign subsidiary’s functional currency. In your report, discuss the relationship between the current ratio, the debt-to-equity ratio, and profit margin calculated from the FC financial statements and from the translated U.S. dollar financial statements. Also discuss the meaning of the translated U.S. dollar amounts for inventory and for fixed assets.

Explanation of Solution

The report summarizing the differences that will be reported in the company’s 2017 consolidated financial statements because the FC, rather than the U.S. dollar, is the foreign subsidiary’s functional currency:

	FC	Temporal	Current Rate
Current ratio
Current assets	$ 3,000	$   1,240	$ 1,140
Current Liabilities	$ 1,500	$      570	$    570
	2	2.1754	2
Debt-equity ratio
Total stockholder’s equity	$ 4,500	$   1,710	$ 1,710
	$ 3,900	$   2,230	$ 1,482
	1.15385	0.766816	1.15385
Profit Margin
Net income	$    700	$      630	$    315
Sales	$ 5,000	$   2,250	$ 2,250
	0.14	0.28	0.14
Return on Equity
Net income	$    700	$      630	$    315
Average Stockholder’s equity	$ 3,550	$   1,915	$ 1,541
	0.19718	0.328982	0.20441
Inventory Turnover
Cost of goods sold	$ 3,000	$   1,360	$ 1,350
Average inventory	$ 1,000	$      430	$    380
	3	3.162791	3.55263

Table: (5)

Translated U.S. dollar amounts for inventory and for fixed assets:

The temoral method represent the amounts in U.S. dollar for the inventory and the fixed assets which shows the cost of these assets in U.S. dollar if the parent company purchased the assets from the subsidiary company in dollars.

The current rate method does not reprsent the U.S. dollar value of the assets. The current method shows the amount in U.S dollars when the current exchenge rate is used.