Gramado Company was created as a wholly owned subsidiary of Porto Alegre Corporation on January 1, Year 1. On that date, Porto Alegre invested $42,000 in Gramado's capital stock. Given the exchange rate on that date of $0.84 per cruzeiro, the initial investment of $42,000 was converted into 50,000 cruzeiros (Cz). Other than the capital investment on January 1, there were no transactions involving stockholders' equity in Year 1. Gramado's cruzeiro-denominated financial statements for Year 2 are as follows:
Income Statement Year 2
Cz
Sales 540,000
Cost of goods sold (310,000)
Gross profit 230,000
Operating expenses (108,000)
Income before tax 122,000
Income taxes (40,000)
Net income 82,000
Statement of Retained Earnings Year 2
Retained earnings, 1/1/Y2 154,000
Net income 82,000
Dividends (paid on 12/1 /Y2) (20,000)
Retained earnings, 12/31/Y2 216,000
Balance Sheet December 31, Year 2
Cz
Cash 50,000
Receivables 100,000
Inventory 72,000
Plant and equipment (net) 300,000
Less: Accumulated depreciation (70,000)
Total assets 452,000
Liabilities 186,000
Capital stock 50,000
Retained earnings, 12/31/Y2 216,000
Total liabilities and stockholders' equity ………. 452,000
The cruzeiro is the primary currency that Gramado uses in its day-to-day operations. The cruzeiro has steadily fallen in value against the dollar since Porto Alegre made the investment in Gramado on January 1, Year 1. Relevant exchange rates for the cruzeiro for Years 1 and 2 are as follows:
January 1, Year 1 $0.84
Average for Year 1 0.80
December 31, Year 1 0.75
Average for Year 2 0.72
December 1, Year 2 0.71
December 31, Year 2 0.70
Required:
a. Translate Gramado Company's Year 2 financial statements into dollars.
b. Compute the translation adjustment for Year 1 and for Year 2 and reconcile these amounts to the cumulative translation adjustment reported on the translated balance sheet at December 31, Year 2.