Current Rate vs. Temporal Rate Method Memorization

I’m chugging along and have really improved in the last couple weeks, but one thing that is giving me trouble is current vs. temporal method. It’s a really easy topic when my readings/charts are right in front of me, but when I try to translate without my notes my mind just goes blank on whether to use historical, average, or current.

Anybody have any effective ways to memorize the two methods that worked for them?

The first step is to determine which one to use, so think current-translation, temporal-remeasurement. If the foreign currency is the functional currency, you would require something more dramatic so you would use translation or current rate rather than remeasurement. Vice versa if the reporting currency if the function currency.

For the B/S, in the current rate method, you want to use the most CURRENT rate for everything with the exception of Capital Stock or shareholders equity, which uses historic. In the temporal method, you will use the historical rate for everything with the exception of any monetary assets/liabilities (cash, accounts payable and receivable, and any debt), which uses the current rate.

For I/S, everything uses average rate, with the exception that temporal uses historic rate for COGS (and I believe depreciation) because you are also using the historic rate on the B/S.

Best way to learn is to practice one or two problems and understand why you’re doing what you’re doing.

Good way to think about it is determing what you are exposed to. If your firm has a whole entity in which all operations occur in a different currency, the whole operation is exposed to currency risk so you want to translate everything over at current to see what would happen if that business went under. On the other hand, when only a portion of your business or better yet a temporary extension of your business is in a foriegn country, you are not neccesrarily concerned with all the assets exposure - just the stuff that you would be translating in the near term (i.e monetary assets).

For the first case, where the whole operation is done in a foriegn country you don’t have to realize the PnL related to the FX as it doesn’t really effect you until you sell the business of or something like that. But for the second case, the nature of your business likely means you will be feeling the effects of FX movements somewhat frequently as your main currency is not your local currency. So you would want to include the effects in net income essentially realizing them.

Further your FX exposure is going to be the net amount of your assets/liabilites that are exposed (i.e the stuff you translate at the current rate). For the case where your whole operation is foriegn you will likely be have a positive asset exposure since you are using all of translating all of your assets and liabilities over at the current rate and typically total assets> toal liabilities, so you are basically long the forieng ccy. However for the second case, you are only moving your monetary assets and liabilities, and a lot of time monetary liabilities > monetary assets, leaving you essetentially with a short ccy exposure.

This is GREAT!!! Does anyone else have TRICKS TO UNDERSTANDING this concept… it’s kick my Ars!!!

Thanks in advance!!!

Thanks for digging that up Rasec. I’m saving that link.

Under current rate method, isn’t equity done using current rate because BS items are done using current rate, if not then they won’t match?

In simple terms, under current rate all balance sheet items are translated using current rate and all P&L items using average method. The equity is then manipulated to balance the balance sheet using a plug in figure called Cumulative Translation Adjustment (CTA).

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Don’t forget on common stock which is calculated by historical currency value only.

So cumulative translation adjustment = Foreign translation adjustment?

Yes, sort of. FTA is a subset of CTA. Foreign translation adjustment refers to the current period adjustment. CTA is a big dumpster where all historical foreign translation adjustments were thrown into, hence the word cumulative.