The Value Relevance of the Foreign Translation Adjustment

41 Pages Posted: 28 Oct 2002

See all articles by Henock Louis

Henock Louis

Pennsylvania State University - Smeal College of Business

Multiple version iconThere are 2 versions of this paper

Date Written: May 23, 2002

Abstract

Proponents of comprehensive income maintain that comprehensive income identifies all the sources of value-added in a firm. However, the economics of the foreign translation adjustment, which is a major component of comprehensive income, suggests that this is not necessarily the case. When a foreign currency appreciates, both the production costs and the revenues of U.S. manufacturers operating in the host country tend to increase. But, because input prices are stickier than output prices, in general, the cost effect dominates the revenue effect. Hence, U.S. producers get hurt when the currencies of their host countries appreciate. However, under the current rate method, the foreign currency appreciation implies an adjustment gain rather than a loss because net assets are translated at a higher rate. Consistent with the economic rationale, I find that the translation adjustment is negatively associated with firm value. This implies that the translation adjustment is value relevant, but not in the direction generally assumed.

Keywords: comprehensive income, foreign translation adjustment, international accounting, value relevance

JEL Classification: F23, F29, F31, M41, M47

Suggested Citation

Louis, Henock, The Value Relevance of the Foreign Translation Adjustment (May 23, 2002). Available at SSRN: https://ssrn.com/abstract=336163 or http://dx.doi.org/10.2139/ssrn.336163

Henock Louis (Contact Author)

Pennsylvania State University - Smeal College of Business ( email )

University Park, PA 16802-3306
United States
814-865-4160 (Phone)
814-863-8393 (Fax)

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