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Consolidation with Foreign Subsidiaries

>> September 6, 2011

General Discussion of US Parent Company 
One of the significant thing in consolidated financial statement of group of company is consolidation with foreign subsidiaries. For example An Indian Company Z invested his money in USA's Y Company and Y company has become the subsidiary company. This investment was in USA dollars. Y company's all expenses and incomes are in USA Dollars. But Indian Z company deals in Indian currency. Now, how will Indian Z company consolidate with Y USA subsidiary company. For solving this issue, International financial reporting standards have given some guidelines.

1.  Pre-acquisition equity will be translated at historical rate

Subsidiary company's pre-acquisition equity will be translated at historical rate. Suppose, shares capital of Y company before acquisition was Pre-acquisition rate was 1$ = RS. 50. Then share capital was translated at RS. 50. Rs 500000 is the capital of subsidiary company.

2. Functional currency issues

SFAS 52 introduced the concept of functional currency, defined as "the currency of the primary economic environment in which the entity operates; normally, that is, the currency of the environment in which an entity primarily generates and expends cash."

For example Z company's subsidiary Y company deals with 5 countries. There are different transactions. All these Transactions are often translated at the spot rate, i.e., the rate of exchange between the transaction currency and the functional currency on the date of the transaction. Before translation of functional currency record  in parent company's currency, it is very necessary that all transactions should be converted in functional currency. If there will be any profit or loss due to foreign currency fluctuations, it will go to Forex profit or loss.

3. Translation of financial statements of foreign subsidiaries into parent’s presentation currency

Generally accepted accounting principles in the United States usually require that companies which own more than 50% of the voting stock of foreign corporations prepare consolidated financial statements. The foreign financial statements must be recast into US GAAP and the foreign currency financial statements must be translated into US dollars. Like USA, there are many country's GAAP follow such rules.

4.  Re-measurement of foreign currency financial statements into a subsidiary’s functional currency

The remeasurement of the foreign entity’s statements into the functional currency of the entity After re-measurement, the statements must then be translated if the functional currency is not the U.S. dollar.
No additional work is needed if the functional currency is the U.S. dollar.

5. Other translation issues

Exchange gains and losses from foreign currency transactions require the recognition of a deferred tax if they are included in income but not recognized for tax purposes in the same period

A deferral is required for the portion of the translation adjustment related to the subsidiary’s undistributed earnings that are included in the parent’s income.

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