Summary of Statement No. 52
Foreign Currency Translation (Issued 12/81)
Summary
Application of this Statement will affect financial reporting of
most companies operating in foreign countries. The differing
operating and economic characteristics of varied types of foreign
operations will be distinguished in accounting for them.
Adjustments for currency exchange rate changes are excluded from
net income for those fluctuations that do not impact cash flows and
are included for those that do. The requirements reflect these
general conclusions:
The economic effects of an exchange rate change on an
operation that is relatively self-contained and integrated within a
foreign country relate to the net investment in that operation.
Translation adjustments that arise from consolidating that foreign
operation do not impact cash flows and are not included in net
income.
The economic effects of an exchange rate change on a
foreign operation that is an extension of the parent's domestic
operations relate to individual assets and liabilities and impact
the parent's cash flows directly. Accordingly, the exchange gains
and losses in such an operation are included in net income.
Contracts, transactions, or balances that are, in
fact, effective hedges of foreign exchange risk will be accounted
for as hedges without regard to their form.
More specifically, this Statement replaces FASB
Statement No. 8, Accounting for the Translation of Foreign
Currency Transactions and Foreign Currency Financial
Statements, and revises the existing accounting and reporting
requirements for translation of foreign currency transactions and
foreign currency financial statements. It presents standards for
foreign currency translation that are designed to (1) provide
information that is generally compatible with the expected economic
effects of a rate change on an enterprise's cash flows and equity
and (2) reflect in consolidated statements the financial results
and relationships as measured in the primary currency in which each
entity conducts its business (referred to as its "functional
currency").
An entity's functional currency is the currency of
the primary economic environment in which that entity operates. The
functional currency can be the dollar or a foreign currency
depending on the facts. Normally, it will be the currency of the
economic environment in which cash is generated and expended by the
entity. An entity can be any form of operation, including a
subsidiary, division, branch, or joint venture. The Statement
provides guidance for this key determination in which management's
judgment is essential in assessing the facts.
A currency in a highly inflationary environment
(3-year inflation rate of approximately 100 percent or more) is not
considered stable enough to serve as a functional currency and the
more stable currency of the reporting parent is to be used
instead.
The functional currency translation approach adopted
in this Statement encompasses:
- Identifying the functional currency of the entity's economic
environment
- Measuring all elements of the financial statements in the
functional currency
- Using the current exchange rate for translation from the
functional currency to the reporting currency, if they are
different
- Distinguishing the economic impact of changes in exchange rates
on a net investment from the impact of such changes on individual
assets and liabilities that are receivable or payable in currencies
other than the functional currency
Translation adjustments are an inherent result
of the process of translating a foreign entity's financial
statements from the functional currency to U.S. dollars.
Translation adjustments are not included in determining net
income for the period but are disclosed and accumulated in a
separate component of consolidated equity until sale or until
complete or substantially complete liquidation of the net
investment in the foreign entity takes place.
Transaction gains and losses are a result of
the effect of exchange rate changes on transactions denominated in
currencies other than the functional currency (for example, a U.S.
company may borrow Swiss francs or a French subsidiary may have a
receivable denominated in kroner from a Danish customer). Gains and
losses on those foreign currency transactions are generally
included in determining net income for the period in which exchange
rates change unless the transaction hedges a foreign currency
commitment or a net investment in a foreign entity. Intercompany
transactions of a long-term investment nature are considered part
of a parent's net investment and hence do not give rise to gains or
losses.
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