The main reason why subsidiaries translate their financial statements is to enable the parent company to prepare consolidated financial statements. Accounting standards stipulate that all listed companies must prepare their consolidated financial statements, including those of their subsidiaries. The method used to translate financial statements ought to reflect the relationship that exists between the subsidiary and the parent/reporting entity’s operations. According to GAAP, a foreign subsidiary’s financial statement must be translated to that of the parent company in order to enhance consolidation. Both international financial accounting standards and GAAP require subsidiaries to re-measure all the assets and liabilities when determining the functional currency in order to enhance the consolidation of financial statements. It helps the parent company to be able to present financial statements using the functional currency in the consolidated financial statements.
In most cases, the relationship between the subsidiary and the reporting entity will vary in terms of foreign operations. For instance, some operations in the parent company are interrelated with those of the subsidiary in terms of marketing, operations, and processing. However, some activities might be divorced from those of the parent company because, in most cases, the relationship is that of an investor or investee. Since the currency of the subsidiary and the parent company are different, the reporting entity must translate all the financial statements in order to help the parent company to prepare consolidated financial statements. This enables the reporting entity’s financial statements to be compatible with those of the subsidiary.