Chapter 11
Translation Exposure
◼ Learning Objectives
1. Describe how the consolidation of a multinational firm’s foreign entities creates
translation exposure
2. Examine the two major methods of translation, including their theoretical and practical
differences
3. Understand how translation can potentially alter the value of a firm
4. Illustrate the cost and effectiveness of managing translation exposure
◼ Chapter Outline
I. Overview of Translation
A. Concepts and Definitions
1. Reporting Currency
2. Foreign Entity
3. Distinct and Separable Operation
4. Functional Currency
5. Foreign Currency Financial Statements
B. Remeasurement and Translation
1. Foreign Currency Measurement (Remeasurement)
2. Foreign Currency Translation
II. Translation Methods
C. Current Rate Method
Assets and Liabilities
Income Statement Items
Distributions
Equity Items
D. Temporal Method
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2. Causation. What activity gives rise to translation exposure?
3. Converting Financial Assets. In the context of preparing consolidated financial statements,
are the words translate and convert synonyms?
4. Subsidiary Characterization. What is the difference between a self-sustaining foreign
entity and an integrated foreign entity?
5. Functional Currency. What is a functional currency? What do you think a “non-functional
currency” would be?
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12. Translation Exposure Management. What are the primary options firms have to manage
translation exposure?
13. Accounting or Cash Flow. A U.S.-based multinational company generates more than 80%
of its profits (earnings) outside the United States in the euro zone and Japan, and both the
euro and the yen fall significantly in value versus the dollar as occurred in the second half
of 2014. Is the impact on the firm only accounting or does it alter cash flow, or both?
14. Balance Sheet Hedge Justification. When is a balance sheet hedge justified?
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15. Realization and Recognition. When would a multinational firm, if ever, realize and
recognize the cumulative translation losses recorded over time associated with a
subsidiary?
16. Tax Obligations. How does translation alter the global tax liabilities of a firm? If a
multinational firm’s consolidated earnings increase as a result of consolidation and
translation, what is the impact on tax liabilities?
17. Hyperinflation. What is hyperinflation and what are the consequences for translating
foreign financial statements in countries experiencing hyperinflation?
18. Transaction Versus Translation Losses. What are the main differences between losses
from transaction exposure and translation exposure?
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