Determining an Entity’s Functional Currency Maxima Corporation, a U.S. company, m...

Determining an Entity’s Functional Currency

Maxima Corporation, a U.S. company, manufactures lighting fixtures and ceiling fans. Eight years ago, it set up a subsidiary in Mexico to manufacture three of its most popular ceiling fan models. When the subsidiary, Luz Maxima, was set up, it did business exclusively with Maxima, receiving shipments of materials from U.S. suppliers selected by Maxima and selling all of its production to Maxima. Maxima’s management made a determination that its subsidiary’s functional currency was the U.S. dollar.

During the past five years, changes in Luz Maxima’s operations have occurred. The subsidiary has developed relationships with suppliers within Mexico and is obtaining a significant percentage of its materials requirements from these suppliers. In addition, Luz Maxima has expanded its production by introducing a new product line marketed within Mexico and Central America. These products now make up a substantial percentage of the subsidiary’s sales. Luz Maxima obtained long-term debt financing and a line of credit from several Mexican banks to expand its operations.

Prior to the preparation of Maxima’s consolidated financial statements for the current year, Luz Maxima’s financial statements, reported in Mexican pesos, had to be converted into U.S. dollars. Maxima’s CFO, Garry Parise, is concerned that Luz Maxima’s functional currency may no longer be the U.S. dollar and that remeasurement of its financial statements may not be appropriate.

Required

Research the most current accounting standards on determining an entity’s functional currency using the Accounting Standards Codification. Garry has asked you, as an accountant in the controller’s department, to research the functional currency issue. Write a memo to him, reporting the results of your research. Support your recommendations with citations and quotations from the authoritative financial reporting standards.