Exchange Rates
Question: Exchange rates that vary over time create a reporting problem for companies working in international
markets. To illustrate, assume a U.S. company makes a sale of a service to a Mexican company on December 9,
Year One, for 100,000 Mexican pesos that will be paid at a later date. The exchange rate when the sale was made
is assumed to be 1 peso equal to $0.08. However, by the end of Year One when financial statements are produced,
the exchange rate has changed to 1 peso being equal to $0.09. What reporting does a U.S. company make of
transactions that are denominated in a foreign currency if the exchange rate changes as time passes?1
Answer: At the time of the sale, reporting is easy. The 100,000 pesos has the equivalent value of $8,000 (100,000
pesos × $0.08) so that the following journal entry can be produced. Even though 100,000 pesos will be physically
received, $8,000 is reported so that all balances on the seller’s financial statements are stated in terms of U.S. dollars.
By the end of the year, the exchange rate is 1 peso equal to $0.09. The Mexican peso is worth a penny more
relative to the U.S. dollar. Thus, 100,000 pesos can now be changed into $9,000 (100,000 × $0.09). When
adjusting entries are prepared in connection with the production of financial statements, one or both of the above
account balances could remain at $8,000 or be updated to $9,000. The sale took place when the exchange rate was
$0.08 but, now, before the money is collected, the peso has risen in value to $0.09. FASB had to set a standard
rule as to whether the current rate or the historical rate was appropriate for reporting foreign currency balances.
