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Foreign subsidiary consolidation under FASB 52: The case of the fading Honduran plant during periods of moderate inflation and devaluation

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Since the end of fixed exchange rates under the gold standard in the 1970s, researchers and practitioners have pointed out that the translation of foreign subsidiary financial statements and the subsequent consolidation of those foreign statements into the US parent's financial statement in accordance with FASB 52 provides little useful information because the data loses the context that the foreign subsidiary operates in. Previous research has pointed out that the recasting of foreign financial statements into US GAAP distorts information and that exchange rate conversion may also not provide any useful in formation in regards to price or value in the market where the subsidiary operates. However, previous research has not drawn from the extant literature on exchange rates, inflation, or influences on capital structure decisions sufficiently to provide valuable insight into why the translation and currency conversion might fail to provide accurate insight. This study reviews the theoretical and empirical literature in the areas of foreign currency exchange, inflation, and capital structure across different national context to better explain why the translation and consolidation of foreign subsidiary information is complex issue. Using data from Honduras from 1987 to 2010, we provide an example of how moderate inflation and currency devaluation can cause fixed assets to fade away. The paper also discusses various solutions suggested by previous researchers and provides additional suggestions.