Translation Analytical Issues

When it comes to analyzing translations, issues can sometimes seem to crop up everywhere. Suppose, for example, you're evaluating the differences in translation methods between various subsidiaries of Rio Tinto, a UK-based mining company. A smart way to start would be investigating the impacts of the current exchange rate method and the temporal method on different financial ratios.

Take the current ratio, for instance. With its different subsidiaries located in various countries and using various currencies, Rio Tinto will have a current ratio that will be impacted by both translation methods. But what account would cause that impact?

Exactly right. Under the temporal method, inventory would be a non-monetary asset measured at the historical value on the balance sheet. So the historical exchange rate when inventory was recorded on the balance sheet would be used to translate inventory. The current exchange rate method would require the current exchange rate.

No, that's not right. Accounts payable is a monetary liability and would be translated using the current exchange rate under both methods.

No. Accounts receivable is a monetary asset and would be translated using the current exchange rate under both methods.

Accounts receivable and inventory aren't the only asset accounts that impact ratio analysis. Yet another account to look out for is Rio Tinto's property and equipment. Property and equipment will be translated under the temporal method at historical exchange rates since it is a non-monetary asset, while the current exchange rate method will use the current rate. So it impacts total asset ratios.

But inventory from Rio Tinto's subsidiaries impacts more than just the balance sheet. Take cost of goods sold as an example. Under the temporal method, it's translated under the historical rate when inventory was purchased, but the current exchange rate method uses the current rate. And naturally, that impacts net income, which will always differ between the methods because the translation adjustment is located on different financial statements.

So if net income always differs, then all of the income statement accounts will differ right? Well, not all of them. Think of the accounts that are treated similarly between the current exchange rate method and temporal method. Which ratio would be equal regardless of the method used?

Not so. Net income will differ between each method.

Not quite. Inventory and cost of goods sold will differ between each method.

Correct! There is no difference between accounts receivable and sales under either method. That's because both methods use the average rate for sales and the current rate for receivables.

To summarize: [[summary]]

Inventory

Accounts payable

Accounts receivable

Return on equity

Inventory turnover

Receivables turnover

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