IAS 21-Overview

Objectives, Scope and Definitions

Functional Currency
Presentation Currency
Monetary and Non-monetary items
Transactions in Foreign Currency
Initial recognition
Reporting at subsequent reporting dates
Recognition of exchange difference
Transactions settled within the period
Transaction balance outstanding at end of reporting period

Net investment in a Foreign Operation

Change in Functional Currency

Translation into Presentation Currency (Foreign Subsidiary Consolidation)

Procedures for translation into Presentation Currency
Hyperinflationary Economies
Goodwill
Disposal of a Foreign Operation

Objectives, scope and Definitions

Objectives

Scope

To prescribe how to
IAS 21 applies to:
accounting for foreign currency transactions;
include foreign
translating the FS of foreign operations that are included in
currency transactions
and foreign operations
the FS of another entity, for example, on consolidation of
in the FS of an entity,
subsidiaries or the inclusion of associates by the equity
and how to translate FS
accounting method; and
into a different currency translating an entity's results and financial position into a
for presentation
different currency for the presentation of its FS.
Definitions
purposes.
Closing rate is the spot exchange rate at the end of the reporting period.
Exchange difference is the difference resulting from translating a given number of units
of one currency into another currency at different exchange rates.
Exchange rate is the ratio of exchange for two currencies.
Foreign currency(FCY) is a currency other than the functional currency of the entity.
Foreign operation(FO) is an entity that is a subsidiary, associate, JV or branch of a
reporting entity, the activities of which are based or conducted in a country or currency
other than those of the reporting entity.
Functional currency is the currency of the primary economic environment in which the
entity operates.
Monetary items are units of currency held and assets and liabilities to be received
or paid in a fixed or determinable number of units of currency.
Net investment in a foreign operation is the amount of the reporting entitys interest in
the net assets of that operation.
Presentation currency (PC)is the currency in which the FS are presented.
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Functional Currency
An Entity

Additional factors for FO

An entity cannot choose its functional currency; instead,

management needs to make an informed assessment of
the facts. Indicators to consider include (in order of
priority)
the currency that mainly influences the prices at which
goods and services are sold;
the country whose competitive forces and regulations
mainly influence the pricing structure for the supply of
goods and services;
the currency in which financing is generated; and
the currency in which cash generated from an entitys
A Group
operating activities is usually
retained.

Whether the activities of the FO

are carried out as an extension
of the reporting entity, or are
being carried out with a
significant degree of autonomy.
An example of the former is
when the FO only sells goods
imported from the reporting
entity and remits the proceeds to
it. An example of the latter is
when the operation accumulates
cash and other monetary items,
incurs expenses, generates
income and arranges borrowings,
all substantially in its local
currency.
Whether transactions with the
reporting entity are a high or a
low proportion of the FOs
activities.
Whether cash flows from the
activities of the foreign operation
directly affect the cash flows of
the reporting entity and are
readily available for remittance
to it.
Whether cash flows from the
activities of the foreign operation
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are sufficient to service existing

In a group, each entity, for example the parent, each

subsidiary and associate, needs to determine its own
functional currency rather than adopting a single one which
is common across the whole group.
Additional factors should be considered to determine
whether the functional currency of a FO is the same as that
of the reporting entity (the group). The overriding factor is
whether the FO operates independently of the reporting
entity or is merely an extension of that entity.
For a group of entities, IAS 21 requires a two stage process:
1. Individual entity level: treatment of foreign exchange
transactions (functional currency); and
2. Consolidation level: translation of the FS of entities, for
example subsidiaries, associates and branches, into a
common currency for consolidated FS purposes
(presentation currency).

Effect of Selection of Functional

Currency
On 01 January 2011, A Co operating in US purchases
inventory from an EU country on credit of one month. The
value of inventory in is 100,000. The details of exchange
rates is as follows:
01- Jan
$/ = 1.5
31- Jan
$/ = 2.0
The effect of selection of $ or as functional currency will be:
Date

$ as Functional Currency

01- Jan

Dr. Inventory
Cr. Payable
$150,000

$150,000

31-Jan

Dr. Payable
$150,000
Dr. Exchange Loss () $

as Functional
Currency
Dr. Inventory
100,000
Cr. Payable
100,000
Dr. Payable
100,000
Cr. Bank

Presentation Currency
IAS 21 does not require to present
financial statements using functional
currency. An entity has a completely free
choice of the currency in which its
financial statements are presented.
The approach that is required to translate
the financial statements of an entity, or a
group of entities, into a different
presentation currency is discussed later.
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Monetary and Non-monetary items

The essential feature of a monetary item is a right to receive (or an
obligation to deliver) a fixed or determinable number of units of
currency. Examples include:
pensions and other employee benefits to be paid in cash;
provisions that are to be settled in cash; and
cash dividends that are recognised as a liability.

Conversely, the essential feature of a non-monetary item is the

absence of a right to receive (or an obligation to deliver) a fixed or
determinable number of units of currency. Examples include:
amounts prepaid for goods and services (eg prepaid rent);
goodwill;
intangible assets;
inventories;
property, plant and equipment; and
provisions that are to be settled by the delivery of a non-monetary asset.
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Transactions in the Functional Currency

Initial recognition
An entity should record FCY , for example the buying or selling of goods or services whose price is
denominated in a FCY, in a consistent manner.
An entity does this by recognising each transaction at the spot exchange rate on the date that
the transaction took place.
Thus, if an entity whose functional currency is CU buys a non-current asset for N$1 million when
the spot exchange rate is CU1:N$2, then the transaction will initially be recorded at CU500,000.
Where there are high volumes of such transactions, for practical reasons an average exchange
rate over the relevant period may be used as an approximation. However, if exchange rates
fluctuate significantly over short periods of time it is not appropriate to use an average rate since
it would not be a fair approximation for actual rates.

Reporting at the ends of subsequent reporting periods

At the end of each reporting period the following translations of foreign currency should be carried
out.

Item

Exchange rate

Monetary items

Closing rate (i.e. the spot exchange rate at the

end of the reporting period)

Non-monetary items measured at

historical Cost

Rate of exchange at the date of the original

transaction (i.e. the date of purchase of the
non-current asset)

Non-monetary items measured at fair

value

Exchange rate at the date when fair value was

determined
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Recognition of exchange
differences

The difference that arises from translating the same amounts at different exchange rates is
referred to as an exchange difference.
Such amounts will generally arise in the preparation of a set of FS from the settlement of
monetary amounts payable or receivable in a foreign currency and the retranslation at the
entitys period end.
Exchange differences should normally be recognised as part of the profit or loss for the
period.
However, where gains and losses on a non-monetary item are recognised in OCI, for
example a gain on the revaluation of a property in accordance with IAS 16, any exchange
difference resulting from retranslation of the revalued asset is also reported as part of OCI.
Transactions settled within the period
When a FCY is settled within the same accounting period as that in which it was originally
recorded, any exchange differences arising are recognised in the profit or loss of that period.
Transaction balance is outstanding at the end of the reporting period
When a FCY is settled in a different accounting period to the one in which the transaction
originated, the exchange difference recognised in profit or loss for each period, up to the
date of settlement, is determined by the change in exchange rates during each period.

Recognition of Exchange Differences

Illustration
Warrilow has a year end of 31 December 2007 and uses the CU as its functional currency.
On 29 November 2007, Warrilow received a loan from a foreign bank for N$1,520,000. The
proceeds were used to finance, in part, the purchase of a new office block. The loan remained
unsettled at the year end.
Exchange rates:
29 November 2007 CU1 = N$1.52
31 December 2007 CU1 = N$1.66
The following amounts should be recorded by Warrilow, ignoring interest payable on the loan.
29 November 2007
The cash advance from the bank is translated at the rate on the date that it was received
(N$1,520,000 / 1.52 = CU1,000,000) and a liability recorded for the same amount.
31 December 2007
As the loan was still outstanding at the end of the period and it is a monetary item, it should be
retranslated at the exchange rate at the end of the reporting period (N$1,520,000 / 1.66 =
CU915,663 ). The exchange difference should be recognised as a gain in profit or loss for the
period. (CU1,000,000 less CU915,663 = CU84,337).

Recognition
of
Exchange
Differences
Illustration
Aston has a year end of 31 Dec 2007 and uses the CU as its functional currency. On 25 Oct
2007 Aston buys goods from an overseas supplier for N$286,000. The goods are still held by
Aston as part of inventory at the year end.
Exchange rates:
25 October 2007 CU1 = N$11.16 16 November 2007 CU1 = N$10.87 31 December 2007
CU1 = N$11.25

(a) If, on 16 November 2007, Aston pays the overseas supplier in full the following entries
should be recognised:
25 October 2007.
The initial transaction is recorded as a purchase and a liability at the exchange rate at the
date that the transaction took place (N$286,000 / 11.16 = CU25,627).
16 November 2007.
The actual cost of settling the liability on the date of settlement is calculated (N$286,000 /
10.87 = CU26,311). The exchange difference between the originally recorded liability and the
actual amount required to settle it (CU25,627 less CU26,311 = CU684) is recorded as an
exchange loss in profit or loss for the period. Inventories at the year end are nonmonetary
items and will be carried at their original value i.e. CU25,627.

(b) If the supplier had remained unpaid at the year-end, the following transactions would
have been recognised:
25 October 2007.
The initial transaction is recorded as above at CU25,627.
31 December 2007.
The year-end balance is retranslated at the year-end exchange rate as it is a monetary liability.
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(N$286,000 / 11.25 = CU25,422) The difference should be reported as part of the profit or loss

Net Investment in a Foreign

Operation

An entity may have a monetary amount receivable from, or payable to, a

foreign entity (for example an overseas subsidiary) that is not intended to
be settled in the foreseeable future.
For a receivable, this amount essentially forms part of the overall
investment in the foreign entity. At the period-end, monetary amounts such
as this are retranslated and any differences recognised in profit or loss of
the appropriate entity. But IAS 21 operates on the basis that as such
differences are part of the overall investment in the foreign entity, they
should only be recognised in profit or loss when the foreign entity is
disposed of.
In the preparation of the consolidated FS, any exchange difference arising
from the net investment in a foreign operation should be reported initially
in OCI and not in the consolidated profit or loss for the period. If the foreign
entity is subsequently sold, any such exchange differences will form part of
the reported profit or loss on disposal by reclassifying the amount from
equity to profit or loss.
The loan could be made by a group entity other than the parent entity. For
example, an entity has two subsidiaries, A and B. Subsidiary B is a foreign
operation. Subsidiary A grants a loan to Subsidiary B. Subsidiary As loan
receivable from Subsidiary B would be part of the entitys net investment
in Subsidiary B if settlement of the loan is neither planned nor likely to
occur in the foreseeable future. This would also be true if Subsidiary A were
itself a foreign operation.
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Change in Functional Currency

If the underlying economic activities change in
such a way that there is a change in the
functional currency of an entity, the new
functional currency should be applied
prospectively from the date of the change in
circumstances.
The entity should not restate amounts
previously recorded as these reflected the
economic reality at that time.
All amounts should be retranslated into the new
functional currency at the date of the change.
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Translation into Presentation

Currency
Procedures for translation
into presentation currency
The translation into a PC can be undertaken by an individual entity, if it decides to present
its FS in a currency different to its functional currency.
Much more commonly, it is undertaken when entities within a group have functional
currencies different from the PC of the parent. For the preparation of the groups CFS,
such entities will need to retranslate their FS into the PC being used.
The steps to translate financial statements into a different presentation currency are:
retranslate the assets and liabilities for each SFP presented (i.e. the current period
end and the comparative period) at the closing rate at the date of that statement of
financial position;
retranslate income and expenditure recorded in each SCI presented (i.e. the current
period and the comparative period) at the exchange rates at the dates of the
transactions; for practical reasons an average rate may be used for each period,
assuming that the exchange rate does not fluctuate significantly during the period;
and
recognise all resulting exchange differences in other comprehensive income.
Where exchange differences relate to a FO that is not wholly owned, accumulated
exchange differences attributable to the NCI should be allocated to NCI in the
consolidated SFP.
Hyperinflationary economies
Where an entity has a functional currency that is the currency of a hyperinflationary
economy, it is required to restate its functional currency FS in accordance with IAS 29
If, however, such an entity chooses to use a different PC, the requirements in IAS 21 for
the retranslation of the FS into the PC should be applied

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Goodwill
In the CFS, any goodwill arising on the acquisition of a FO should be
treated as an asset of the FO.
The GW should therefore be expressed in the functional currency of the FO
and translated at the closing rate at the date of each SFP.
The same treatment is required of any fair value adjustments to the
carrying amounts of assets and liabilities arising on the acquisition of a FO.
In both cases exchange differences are recognised in OCI, rather than as
part of the profit or loss for the period.
Illustration
An entity acquires a foreign subsidiary on 15 August 2007. The goodwill
arising on the acquisition is R$400,000. At the date of acquisition the
exchange rate into the parents functional currency is R$4:CU1. At the
parent entitys year end the exchange rate is R$5:CU1.
The goodwill at the date of acquisition is CU100,000 (R$400,000/4). At the
year end it is retranslated to CU80,000 (R$400,000/5). The difference of
CU20,000 is recorded as an exchange loss and reported in other
comprehensive income.

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Disposal of a foreign operation

Where a foreign entity is disposed of, any
exchange differences that have been
recognised in OCI and accumulated in a
separate component of equity are
required to form part of the profit or loss
on disposal.
Such amounts will therefore be
reclassified from equity to profit or loss as
a reclassification adjustment in the period
in which the disposal takes place.
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Disposal of foreign
operation

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Disposal of foreign operation

Practice Question- Foreign Operation

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Class Practice Question

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Class Practice Question

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Class Practice Question

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