Continuing with our illustration: if we go through the results of our total revenue
differences of PC 25, the volume and price variances of PC 200 and a negative PC
60, respectively, do not add up to the total of PC 25. Since we have previously es-
tablished that these identified variances are the appropriate ones calculated by the
local company, the balance, a negative PC 114, must be due to currency. (This
amount can be calculated: the planned exchange rate was one-ninth higher than the
actual rate, or 11.11%; 11.11% of PC 1,025 equals PC 114.) In other words, the weak-
ening of the local currency versus the parent company currency has resulted in a
translation into fewer parent company currency units. Exactly the opposite is the case
for cost of sales and expenses.
Our final conclusion here is that, from the parent company’s point of view, the
total variance of PC 54 shows the same factors as the ones noted in Exhibit 25.11,
only this time expressed in parent company currency, and that the difference in ex-
change rates has caused the overall results to be lower by PC 81. This indicates that,
when a local company’s currency depreciates in relation to the parent company cur-
rency, and where margins are positive, the translation process will result in lower
earnings, as shown in this illustration. By the same token, the opposite would happen
if the local currency appreciated.
The summary presentation of the variance factors is:
PC
Higher volumes accounted for 100
Lower prices reduced earnings by (60)Cost rate lower by (^120)
Local gross profit (margin) improved by 160
Expenses higher by (25)
Local factors accounted for an earnings improvement of 135
Weakened local currency caused currency losses of _(81)
Before-tax income improved by ____ 54
Each one of these factors may be analyzed further. It is, for example, possible to
segregate the currency effect between ordinary, or pure translation, and dual currency
accounting. Dual currency accounting is practiced for such factors as inventories and
fixed assets where books are kept in both LC and PC.
In this example, the dual currency accounting effect would be PC 45, which is ar-
rived at as follows: the opening inventory was converted at a rate of LC 1 = PC 1,
whereas the actual 20X0 exchange rate was LC 1 = PC 0.9, with the effect of reduc-
ing costs by PC 40. Similarly, depreciation was held constant, while a translation at
the current rate would have reduced the charge by PC 5. Altogether, as our overall cur-
rency variance is a negative PC 81 and dual currency accounting explains PC 45 of
the variance, the pure translation effect between the two quarters is a negative PC 36.
(iii) Analysis If Functional Currency Is That of Local Company. While the foregoing
example converted the LC results into PC, using the principles of FASB No. 52,
when the functional currency is PC, Exhibit 25.13 uses the same LC data but con-
verts them into PC results, using LC as functional currency, and all elements are con-
verted at the actual 20X0 exchange rate (LC 1 = PC 0.9). It should be noted that only
two elements change (when compared with PC as functional currency): inventory
and depreciation.
25.8 PROFIT PLANNING CONTROLS 25 • 19