FC
A$
Sales 35,000
10,000
Cost of sales
(33,190)
(9,483)
Depreciation (500)
(143)
Interest (350)
(100)
Profit before taxation
960
274
Taxation (460)
(131)
Profit after taxation
500
143
Statements of financial position
2018
2019
2018
2019
FC
FC
A$
A$
Property, plant and equipment 6,000
5,500
2,000
1,375
Current assets
Inventories 2,700
3,000
900
750
Receivables 4,800
4,000
1,600
1,000
Cash 200
600
67
150
7,700
7,600
2,567
1,900
Current liabilities
Payables 4,530
3,840
1,510
960
Taxation 870
460
290
115
5,400
4,300
1,800
1,075
Net current assets
2,300
3,300
767
825
8,300
8,800
2,767
2,200
Long-term loans
3,600
3,600
1,200
900
4,700
5,200
1,567
1,300
Share capital
1,000
1,000
500
500
Retained profits*
3,700
4,200
1,500
1,643
Exchange reserve*
(433)
(843)
4,700
5,200
1,567
1,300
*
The opening balances for 2018 in A$ have been assumed and represent cumulative amounts since the
foreign entity was set up.
The movement of A$(410) in the exchange reserve included as a separate component of equity is made up
as follows:
(i) the exchange loss of A$392 on the opening net investment in the subsidiary, calculated as follows:
Opening net assets at opening rate
– FC4,700 at FC3 = A$1 =
A$1,567
Opening net assets at closing rate
– FC4,700 at FC4 = A$1 =
A$1,175
Exchange loss on net assets
A$392
(ii) the exchange loss of A$18, being the difference between the income account translated at an average
rate, i.e. A$143, and at the closing rate, i.e. A$125.
When the exchange differences relate to a foreign operation that is consolidated but not
wholly-owned, accumulated exchange differences arising from translation and
attributable to non-controlling interests are allocated to, and recognised as part of, non-
controlling interests in the consolidated statement of financial position. [IAS 21.41].
1138 Chapter 15
An example of an accounting policy dealing with the translation of entities whose
functional currency is not that of a hyperinflationary economy is illustrated in the
following extract.
Extract 15.2: Lloyds Banking Group plc (2015)
Notes to the consolidated financial statements [extract]
Note 2
Accounting policies [extract]
(O)
Foreign currency translation
Items included in the financial statements of each of the Group’s entities are measured using the currency of the
primary economic environment in which the entity operates (the functional currency). The consolidated financial
statements are presented in sterling, which is the Company’s functional and presentation currency.
Foreign currency transactions are translated into the appropriate functional currency using the exchange rates
prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such
transactions and from the translation at year end exchange rates of monetary assets and liabilities denominated in
foreign currencies are recognised in the income statement, except when recognised in other comprehensive income
as qualifying cash flow or net investment hedges. Non-monetary assets that are measured at fair value are translated
using the exchange rate at the date that the fair value was determined. Translation differences on equities and similar
non-monetary items held at fair value through profit and loss are recognised in profit or loss as part of the fair value
gain or loss. Translation differences on available-for-sale non-monetary financial assets, such as equity shares, are
included in the fair value reserve in equity unless the asset is a hedged item in a fair value hedge.
The results and financial position of all group entities that have a functional currency different from the presentation
currency are translated into the presentation currency as follows:
–
The assets and liabilities of foreign operations, including goodwill and fair value adjustments arising on the
acquisition of a foreign entity, are translated into sterling at foreign exchange rates ruling at the balance sheet date.
–
The income and expenses of foreign operations are translated into sterling at average exchange rates unless
these do not approximate to the foreign exchange rates ruling at the dates of the transactions in which case
income and expenses are translated at the dates of the transactions.
Foreign exchange differences arising on the translation of a foreign operation are recognised in other comprehensive
income and accumulated in a separate component of equity together with exchange differences arising from the
translation of borrowings and other currency instruments designated as hedges of such investments (see (F)(3) above).
On disposal or liquidation of a foreign operation, the cumulative amount of exchange differences relating to that foreign operation are reclassified from equity and included in determining the profit or loss arising on disposal or liquidation.
The IASB had considered an alternative translation method, which would have been to
translate all amounts (including comparatives) at the most recent closing rate. This was
considered to have several advantages: it is simple to apply; it does not generate any
new gains and losses; and it does not change ratios such as return on assets. Supporters
of this method believed that the process of merely expressing amounts in a different
currency should preserve the same relationships among amounts as measured in the
functional currency. [IAS 21.BC17]. These views were probably based more on the IASB’s
proposals for allowing an entity to present its financial statements in a currency other
than its functional currency, rather than the translation of foreign operations for
inclusion in consolidated financial statements. Such an approach does have theoretical
appeal. However, the major drawback is that it would require the comparatives to be
restated from those previously reported.
Foreign
exchange
1139
The IASB rejected this alternative and decided to require the method that the previous
version of IAS 21 required for translating the financial statements of a foreign operation.
[IAS 21.BC20]. It is asserted that this method results in the same amounts in the
presentation currency regardless of whether the financial statements of a foreign
operation are first translated into the functional currency of another group entity and
then into the presentation currency or translated directly into the presentation
currency. [IAS 21.BC18]. We agree that it will result in the same amounts for the statement
of financial position, regardless of whether the translation process is a single or two-
stage process. However, it does not necessarily hold true for income and expense items
particularly if an indirectly held foreign operation is disposed of – this is discussed
further at 6.1.5 and 6.6.3 below. Differences will also arise between the two methods if
an average rate is used, although these are likely to be insignificant.
The IASB states that the method chosen avoids the need to decide the currency in which
to express the financial statements of a multinational group before they are translated into
the presentation currency. In addition, it produces the same amounts in the presentation
currency for a stand-alone entity as for an identical subsidiary of a parent whose functional
currency is the presentation currency. [IAS 21.BC19]. For example, if a Swiss entity with the
Swiss franc as its functional currency wishes to present its financial statements in euros,
the translated amounts in euros should be the same as those for an identical entity with the
Swiss franc as its functional currency that are included within the consolidated financial
statements of its parent that presents its financial statements in euros.
6.1.2
Functional currency is that of a hyperinflationary economy
The results and financial position of an entity whose functional currency is the currency
of a hyperinflationary economy should be translated into a different presentation
currency using the following procedures: [IAS 21.42]
(a) all amounts (i.e. assets, liabilities, equity items, income and expenses, including
comparatives) are translated at the closing rate at the date of the most recent
statement of financial position, except that
(b) when amounts are translated into the currency of a non-hyperinflationary
economy, comparative amounts are those that were presented as current year
amounts in the relevant prior year financial statements (i.e. not adjusted for
subsequent changes in the price level or subsequent changes in exchange rates).
Similarly, in the period during which the functional currency of a foreign operation
such as a subsidiary becomes hyperinflationary and applies IAS 29 for the first
time, the parent’s consolidated financial statement for the comparative period
should not in our view be restated for the effects of hyperinflation.
When an entity’s functional currency is the currency of a hyperinflationary economy,
the entity should restate its financial statements in accordance with IAS 29 before
applying the translation method set out above, except for comparative amounts that are
translated into a currency of a non-hyperinflationary economy (see (b) above). [IAS 21.43].
When the economy ceases to be hyperinflationary and the entity no longer restates its
financial statements in accordance with IAS 29, it should use as the historical costs for
translation into the presentation currency the amounts restated to the price level at the
date the entity ceased restating its financial statements. [IAS 21.43].
1140 Chapter 15
Example 15.10: Translation of a hyperinflationary functional currency to a non-
hyperinflationary presentation currency
Using the same basic facts as Example 15.9 above, but assuming that the functional currency of the subsidiary
is that of a hyperinflationary economy, the income statement of the subsidiary for that year and its statement of
financial position at the beginning and end of the year in its functional currency and translated into Australian
dollars are as shown below. For the purposes of illustration, any adjustments resulting from the restatement in
accordance with IAS 29 have been ignored. See Chapter 16 for a discussion of such adjustments.
Income statement
FC
A$
Sales 35,000
8,750
Cost of sales
(33,190)
(8,298)
Depreciation (500)
(125)
Interest (350)
(87)
Profit before taxation
960
240
Taxation (460)
(115)
Profit after taxation
500
125
Statements of financial position
2018
2019
2018
2019
FC
FC
A$
A$
Property, plant and equipment 6,000
5,500
2,000
1,375
Current assets
Inventories 2,700
3,000
900
750
Receivables 4,800
4,000
1,600
1,000
Cash 200
600
67
150
7,700
7,600
2,567
1,900
Current liabilities
Payables 4,530
3,840
1,510
960
Taxation 870
460
290
115
5,400
4,300
1,800
1,075
Net current assets
2,300
3,300
767
825
8,300
8,800
2,767
2,200
Long-term loans
3,600
3,600
1,200
900
4,700
5,200
1,567
1,300
Statements of financial position (cont.)
2018
2019
2018
2019
FC
FC
A$
A$
Share capital
1,000
1,000
333
250
Retained profits*
3,700
4,200
1,234
1,050
4,700
5,200
1,567
1,300
*The movement in retained profits is as follows:
A$
Balance brought forward
1,234
Profit for year 125
Exchange difference
(309)
1,050
The exchange loss of A$309 represents the reduction in retained profits due the movements in exchange,
calculated as follows:
Opening balance at opening rate
– FC3,700 at FC3 = A$1 =
A$1,234
Opening balance at closing rate
– FC3,700 at FC4 = A$1 =
A$925
Exchange loss
A$(309)
Foreign
e
xchange
1141
It is unclear what should happen to such an exchange difference (and also the movement
in share capital caused by the change in exchange rates) since paragraph 42 of IAS 21
makes no reference to any possible exchange differences arising from this process.
Similar issues arise when the functional currency of a foreign operation first becomes
hyperinflationary. It would seem inappropriate to recognise such amounts in profit or
loss, but there is uncertainty over whether they should be recognised in other
comprehensive income and/or directly equity and a more extensive discussion of how
we consider entities should approach this issue is included in Chapter 16 at 11.
An example of an accounting policy dealing with the translation of entities whose functional
currency is that of a hyperinflationary economy is illustrated in the following extract.
Extract 15.3: Sberbank of Russia (2015)
Notes to the Consolidated Financial Statements – 31 December 2015 [extract]
3
Basis of Preparation and Significant Accounting Policies [extract]
Foreign currency translation. The functional currency of each of the Group’s consolidated entities is the currency of
the primary economic environment in which the entity operates. The Bank’s functional currency and the Group’s
presentation currency is the national currency of the Russian Federation, Russian Rouble (“RR”).
Monetary assets and liabilities are translated into each entity’s functional currency at the applicable exchange rate at
the respective reporting dates. Foreign exchange gains and losses resulting from the settlement of the transactions
performed by the companies of the Group and from the translation of monetary assets and liabilities into each entity’s
functional currency are recognized in profit or loss. Effects of exchange rate changes on the fair value of equity
instruments are recorded as part of the fair value gain or loss.
The results and financial position of each group entity (except for the subsidiary bank in Belarus the economy of
which was considered hyperinflationary before 2015) are translated into the presentation currency as follows:
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 225
