The effects of

changes in foreign
exchange rates
PAS 21 prescribes the accounting
for foreign activities and the
translation of financial statements
into a presentation currency.
 two ways of
conducting
foreign activities
 foreign currency transactions

import or export transactions that are to be

settled in a foreign currency. These
transactions to Philippines pesos before they
can be recorded i the books of account.
 foreign operations
a branch in another country. the overseas branch will
normally maintain its accounting records and prepare
its financial statements in a foreign currency. Those
financial statements need to be translated to
Philippine pesos before they can be combined with
the home office’s financial statements.
two main accounting issues

a. Which exhange rate(s) to

use; and
b. How to report the effects
of changes in exchange rates
in the financial statements.
 functional currency

PAS 21 requires entity to determine and

disclose its functional currency, which is
“the currency of the primary economic
environment in which the entity operates.
An entity considers the following factors (in
descending order) when determining its
functional currency:
a. the currency that mainly influences the entity’s
sale prices and cost of goods or sevices (primary
factors)
b. the currency in which cash flows from financing
activties and operating activities are usually
generated and retained (secondary factors)
An entity considers the following factors (in
descending order) when determining its
functional currency:

illustations
presentation currency

is the currency in which the

entity’s financial statements
are presented.
foreign currency transactions
is a “tansaction that is denominated or requires
settlement in a foreign currency.
ex. purchase or sale of goods, services or other
assets at a price that is denominated in a foreign
currency, and borrowing, lending or setlling
receivables or payables at amounts that are
denominated in a foreign currency.
 initial recognition

a foreign currency transaction is initially

recognized by translating the foreign currency
amount into the functional currency using the spot
exchange rate at the date of the tansaction.
spot exchange rate is the “ the
exchange rate for immediate
delivery”
date of transaction is “ the date on
which the tansaction first qualifies
for recognition in accordance with
PFRS”
monetary items vs non-monetary items

Monetary items - are currencies held and assets

and liabilities to be recieved or paid in a fixed o
determinable amount of money.
Non- monetary items- are those which do not give
rise to the receipt or payment of a fixed or
deterrminable amount of money
 Monetary Assets Non- Monetary Items

A. Inventories
B. Prepaid Assets
A. Cash and Cash Equivalents C. Property Plant & equipment
B. Accounts / Notes / Loans receivables and their related D. Investment property
allowances and other financial assets measured at amortized cost E. Intangible assets
C. Finance lease receivables F. Goodwill
D. Cash surrender value G. Provisions that are to be settled by a delivery of a non- monetary
asset
H. Share capital and share premium

Monetary Liabilities

A. Accounts / Notes / Loans/ bonds payable and other financial

liabilities measured at amortized cost
B. Employee benefits to be paid in cash
C. Provisions and accrued payable to be settled in cash
D. Cash dividends payable
spot exchange rate vs. closing rate

The current exchange rates on September 1, 20x1

and December 31, 20x1 are the spot exchange rates
on those dates. if the entity uses a calendar year
period, the closing rate is the exchange rate on
december 31, 20x1.
Reporter: Bevelyn N. Apostol
DIRECT QUOTATION INDIRECT QUOTATION

DIrect quotation Conversion Indirect quotation

₱ ₱ ₱

IndIrect quotation

₱ ₱ ₱
MONETARY ITEMS NON-MONETARY ITEMS
SEVERAL EXCHANGE RATES
JOSELYN ROY
When several exchange rates are
available, the rate used is that at
which the future cash flows
represented by the transaction or
balance could have been settled if EXCHANGE RATES
those cash flows had occurred at the
measurement date. If
exchangeability between two Buying rates Selling rates

currencies is temporarily lacking, the

rate used is the first subsequent rate
at which exchanges could be made
EXAMPLES:
If an entity expects to realize a foreign currency receivable by
exchanging the foreign currency with a currency broker, then the
exchange rate to be used is the buying rate.
You have 100 US dollars. You go to a bank to exchange your dollars to
pesos. The bank gives you P43 for each dollar you have.

If an entity expects to settle a foreign currency payable by purchasing

foreign currency from a currency broker, then the exchange rate to be
used is the selling rate.
You purchased goods worth 100 US dollars to be settled in US dollars.
You go to a bank to purchase 100 US dollars to be used in settling the
purchase of goods you have made. The bank gives you 1 US dollar for
every P45 you have.
 Illustration: Buying and selling rates
ABC Co. had the following foreign currency transactions on April 1, 20x1:
• Purchased goods worth CHF 10,000 (francs) from Swiss Company, a
company based in Switzerland.
• Sold goods with sale price of VEB 1,000 (bolivars) to Venezuelan Company, a
company based in Venezuela.
Buying Selling
Swiss Francs
PURCHASE TRANSACTION: SALE TRANSACTION:
April 1, 20x1 P44:CHF1 P48:CHF1
10,000 1,000
April 30, 20x1 P47:CHF1 P50:CHF1
Multiply: P50 P13
Bolivers
(48) 2 (10) 3
April 1, 20x1 P10:CHF1 P12: CHF1 P20,000- P3,000-
Aoril 30, 20x1 P13:CHF1 P16:CHF1 loss gain
Requirements: Compute for the FOREX gain/loss from the transactions:
EXCHANGE DIFFERENCES
RECOGNIZE IN OCI
• When a gain or loss on a non-monetary item is recognized in other
other comprehensive income, any exchange component of thet gain
or loss is recognized in other comprehensive income.
• When a gain or loss on a non-monetary item is recognized in profit or
loss, any exchange component of that gain or loss shall also be
recognized in profit or loss.
Illustration: Revaluation of asset
On January 1, 20x1, ABC Co. acquired equipment for MWK 1,000,000
(kwachas) from a company based in Malawi. The equipment’s
estimated useful life is 4 yeas. ABC Co. uses the straight line method of
depreciation and the revaluation model.
On December 31, 20x1, the equipment was determined to have a net
appraised value of MWK 1,200,000. The relevant rates are as follows:

Jan. 1, 20x1 P0.20 : MWK 1

Dec. 31, 20x1 P0.26 : MWK 1
Solution:
Appraised value of Equipment Dec. 31, 20x1 (1.2M x P0.26) 312,000

Carrying amt. of equipment Dec. 31, 20x1 [(1M xP0.20)x3/4] 150,000

Revaluation surplus – recognized in OCI 162,000

The pertinent entry is:

Dec. 31 Equipment 162,000

Revaluation surplus 162,000
to recognize revaluation surplus
Translation of Financial Statements

An entity is required to present its financial statements using its

functional currency (i.e., Philippine pesos). However, whenever
needed, the entity may translate its financial statements into any
presentation currency (e.g., Japanese yen, US dollars, etc.).
Translation procedures
Financial statements are translated into a presentation currency
as follows:
Items Translated using
a. Assets and Liabilities Closing rate at the date of the
(including comparatives) statement of financial position
b. Income and Expenses Exchange rates at the dates of
(including comparatives) the transactions
All resulting exchange differences are recognized in other
comprehensive income.
Illustration 1: Translation to a presentation
currency
ABC Co.’s functional currency is the Philippine peso (P). However, ABC
needs to present its financial statements in U.S dollars ($) for the
purpose of issuing its debt securities in a foreign market. ABC Co.’s 20x1
financial statements stated in Philippine pesos are shown below
ASSETS
Cash P 10,000
Trade and other receivables 35,000
Inventory 65,000
Property, plant and equipment 90,000
Total assets P200,000

LIABILITIES AND EQUITY

Trade and other payables P120,000
Share capital 30,000
Share premium 10,000
Retained earnings 40,000
Total liabilities & equity P200,000

Revenues P120,000
Expenses (90,000)
Profit for the year 30,000
Other comprehensive income -
Comprehensive income for the year P30,000
Requirement: Translate the financial statements
into U.S. dollar
Solution:

ASSETS (in pesos) Rates (in dollars)

Cash P10,000 0.028 (CR) $280
Trade and other receivables 35,000 0.028 (CR) 980
Inventory 65,000 0.028 (CR) 1,820
Property, plant & equipment 90,000 0.028 (CR) 2,520
Total assets P200,000 $5,600
LIABILITIES AND (in pesos) Rates (in dollars) (in pesos) Rates (in dollars)
EQUITY
Trade and other P120,000 0.028 (CR) $3,360 Revenues P120,000 0.027 $3,240
payables (AR)
Share capital 30,000 0.028 (CR) 750 Expenses (90,000) 0.027 (2,430)
(AR)
Share premium 10,000 0.028 (CR) 250 Profit for the year 30,000 810

Retained earnings 40,000 1,015 Other

comprehensive
Translation (squeeze) 225 income:
adjustment-gain
Gain on translation - (¥225 - 145
Total equity 80,000 2,240 ¥80)

Total liabilities & 200,000 $5,600 Comprehensive 30,000 $955

equity income
 (in pesos) Rates (in dollars)

Retained earnings – beg. P20,000 (given) $480

Profit 30,000 0.027 (AR) 810

Dividends (10,000) 0.0275 (HR) (275)

Retained earnings – end. P40,000 $1,015

 The translation adjustment can be reconciled as
follows: 1) Translation of opening net assets
Net assets, Jan. 1 – at opening rate (60,000x0.026) 1,560

Net assets, Jan. 1 – at closing rate (60,000x0.028) 1,680

Increase in opening net assets – gain 120

Cumulative translation gain, Jan. 1 (given) 80

2) Translation of changes in net assets during the period: Dividends

Profit or loss: Dividends – at historical (10,000x.0275) 275

rate
Profit – at average rate (30,000x.027) 810
Dividends – at closing rate (10,000x0.28) 280
Profit – at closing rate (30,000x.028) 940
Increase in dividends – loss (5)
Increase in profit – gain 30
Cumulative translation 225
gain – OCI
Net Investment in a Foreign Operation
Definition Accounting Principles Hedging Strategies

Net investment in a foreign When a parent company Companies often use

operation refers to the has a net investment in a hedging strategies, such as
carrying amount of the foreign operation, the foreign currency borrowings
reporting entity's interest in foreign currency translation or derivatives, to manage
the net assets of that foreign differences are recognized the foreign exchange risk
operation. This includes any in other comprehensive associated with their net
long-term monetary items income and accumulated in investment in a foreign
that are receivable from or a separate component of operation. The effective
payable to the foreign equity, the foreign currency portion of the hedge is
operation, for which translation reserve. These recognized in other
settlement is neither differences arise from the comprehensive income,
planned nor likely to occur translation of the foreign helping to offset the
in the foreseeable future. operation's financial translation differences and
statements into the parent minimize the impact on the
company's presentation parent company's financial
currency. statements.
Disposal or Partial Disposal of a Foreign
Operation
Disposal
When a parent company disposes of its
Loss of Control
entire interest in a foreign operation, the If the parent company loses control of a
cumulative amount of the foreign currency subsidiary that includes a foreign
translation differences related to that operation, the entire cumulative amount of
foreign operation, recognized in other the foreign currency translation differences
comprehensive income and accumulated related to that foreign operation is
in the foreign currency translation reserve, reclassified from the foreign currency
is reclassified from equity to profit or loss. translation reserve to profit or loss.

1 2 3

Partial Disposal
In the case of a partial disposal, where the
parent company retains a portion of its
interest in the foreign operation, the
proportionate share of the cumulative
foreign currency translation differences is
reclassified from the foreign currency
translation reserve to profit or loss.
Accounting for Disposal or Partial Disposal of
a Foreign Operation
Reclassification to Profit or Loss Gain or Loss on Disposal
When a foreign operation is disposed of or The reclassification of the foreign currency
partially disposed of, the cumulative translation differences to profit or loss is
foreign currency translation differences included in the calculation of the gain or
related to that foreign operation, which loss on disposal. This ensures that the
were previously recognized in other entire exchange difference related to the
comprehensive income and accumulated foreign operation is recognized in the
in the foreign currency translation reserve, income statement, providing a complete
are reclassified from equity to profit or loss. picture of the financial impact of the
disposal or partial disposal.

Accounting Treatment
Disclosure Requirements
The accounting treatment for the
reclassification of foreign currency Companies are required to disclose the
translation differences is specified in IAS 21, amount of cumulative foreign currency
The Effects of Changes in Foreign translation differences reclassified from
Exchange Rates. This standard provides equity to profit or loss upon the disposal or
the guidance for the recognition, partial disposal of a foreign operation, as
measurement, and presentation of foreign well as the line item in the income
currency transactions and foreign statement where the gain or loss is
operations in the financial statements. presented.
Recycling of Foreign Currency Translation
Differences on Disposal

1 Recycling the Reserve 2 Improving Transparency

The reclassification of the foreign Recycling the foreign currency
currency translation differences from the translation differences to profit or loss
foreign currency translation reserve to improves the transparency of the
profit or loss upon the disposal or partial financial statements by ensuring that the
disposal of a foreign operation is often full impact of the foreign operation's
referred to as "recycling" of the reserve. disposal or partial disposal is reflected in
the income statement.

3 Avoiding Distortion 4 Alignment with Income Statement

Statement
Without recycling, the foreign currency
translation differences would remain in The recycling of the foreign currency
the foreign currency translation reserve, translation differences to profit or loss
potentially distorting the reported aligns the recognition of the foreign
financial performance and position of the operation's disposal or partial disposal
parent company. with the corresponding income
statement impact, providing a more
complete and meaningful picture of the
company's financial performance.
Implications for Financial Reporting

Transparency Comparability Decision-making Compliance

The accounting for The consistent The information Companies must
net investment in a application of the provided in the ensure compliance
foreign operation relevant accounting financial statements, with the relevant
and the disposal or standards, such as including the accounting
partial disposal of a IAS 21, The Effects of recognition and standards and
foreign operation Changes in Foreign recycling of foreign regulations to
enhances the Exchange Rates, currency translation maintain the integrity
transparency of helps to ensure the differences, is crucial of their financial
financial reporting by comparability of for users in making reporting and avoid
ensuring that the full financial information informed decisions potential legal or
impact of foreign across companies about the company's regulatory
exchange rate and reporting performance and risk consequences.
changes is reflected periods. profile.
in the financial
statements.
Conclusion and Key Takeaways

Net Investment in a Disposal or Partial Implications for Financial

Foreign Operation Disposal Financial Reporting
The accounting for net Upon the disposal or partial The accounting treatment
investment in a foreign disposal of a foreign for net investment and
operation involves operation, the cumulative disposal of foreign
recognizing foreign foreign currency translation operations enhances the
currency translation differences are reclassified transparency,
differences in other from the reserve to profit or comparability, and
comprehensive income loss, ensuring the full decision-usefulness of
and accumulating them in impact is reflected in the financial information, while
the foreign currency income statement. also ensuring compliance
translation reserve. with relevant accounting
standards.

In conclusion, the accounting for net investment in a foreign operation and the disposal or partial
disposal of a foreign operation is a critical aspect of financial reporting for multinational companies.
By understanding and applying the relevant accounting principles, companies can improve the
transparency and reliability of their financial information, ultimately supporting more informed
decision-making by investors and other stakeholder.
Translation Procedures-
Hyperinflationary
Economy
 PAS 29- Financial Reporting in Hyperinflationary
Economies before translated under PAS 21

a. All amounts shall be translated at the closing rate

b. However, when amounts are translated into currency of
non-hyperinflationary economy, comparative amounts
shall be those thta were presented in the prior year financial
statements (i.e., not adjusted anymore for subsequet
changes in the price level or exchange rate).

Note: When the economy ceases to be hyperinflationary and the entity no longer
restate in PAS 29, it shall use historical costs for translation.
 Illustration: Translation-Hyperinflationary Economy
ABC Co., a Philippine company, has a foreign branch that is operating in a
hyperinflationary economy. The financial statements of the branch prior to
restatement and translation are shown below:

Statement of financial position Statement of profit or loss

As of December 31, 2021 For the year ended December 31, 2021
Amounts in Angolan Kwanza (AOA) Amounts in Angolan Kwanza (AOA)
Cash 46,000 Sales 120,000
Accounts Receivable 74,000 Cost of sales: 60,000
Inventory 40,000 Inventory-Jan.1 30,000
Building 100,000 Purchases 90,000
Accumulated Depreciation (20,000) Total goods available for sale (40,000)
TOTAL ASSETS 240,000 Inventory- Dec.31 (50,000)
Gross Profit 70,000
Loan Payable 30,000 Depreciation expense (10,000)
Share Capital 100,000 Other operating expenses (40,000)
Retained Earnings 110,000 PROFIT FOR THE YEAR 20,000
Total Equity 210,000
TOTAL LIABILITIES 240,000
Additional information:
The building was acquired on January 1, 2020
The share capital was issued o January 1, 2020
Revenues were earned and expenses were incurred evenly during the year.
Selected vales of general price indices (CPI) are shown below:
January 2020 100
Average for 2020 110
January 2021 120
Average for 2021 125
December 31, 2021 140
The net monetary assets as of January 1, 2021 is P10,000
The exchange rates are as follows:
January 1, 2021 AOA1.00 : P0.45
Average for 2021 AOA1,00 : P0.47
December 31, 20201 AOA1.00 : P0.50

Requirement:
Prepare the financial statements of the branch translated into Philippine peso.
A summary of the restatement procedures under PAS 29 are provided below:
Only non-monetary items not already stated at the measuring unit current as of
end of reporting period are restated. Monetary items are not restated.
The formula for restatement is:

Historical Current price index, Index as of the end of reporting period

x
Cost Historical price index*, Index as of acquisition date

• The gain or loss on the net monetary position (also called ‘purchasing power
gain or loss’) is recognized in profit or loss.
This is computed as follows:
Net monetary items, end.-Historical xx
Less: Net monetary items, end. -Restated xx
Gain (loss) on net monetary position xx

Net monetary items=Monetary assets less Monetary liabilities

• “Retained earnings” is the balancing figure in the restated statment of

financial position.
 ABC Co. - Angolan Branch
Restatement and Translation Worksheet
December 31, 2021
Historical Fraction Restated(in current AOA) Closing Rate Translated (in Pesos)

Cash 46,000 N/A 46,000 0.5 23,000

Accounts Receivable 74,000 N/A 74,000 0.5 37,000

Inventory 40,000 140/125 44,800 0.5 22,400

Building 100,000 140/100 140,000 0.5 70,000

Acc. Depreciation (20,000) 140/100 (28,000) 0.5 (14,000)

TOTAL ASSETS 240,000 276,800 138,400

Loan Payable 30,000 N/A 30,000 0.5 15,000

Share Capital 100,000 140/100 140,000 0.5 70,000

Retained Earnings 110,000 (squeeze) 106,800 0.5 53,400

Total equity 210,000 246,800 123,400

TOTAL LIABILITIES & EQUITY 240,000 276,800 138,400

Sales 120,000 140/125 134,400 0.5 67,200

Inventory, JAn. 1 60,000 140/110 76,364

Purchaes 30,000 140/125 33,600

Total goods avail. for sale 90,000 109,964

Inventory, Dec. 31 (40,000) 140/125 (44,800)

Cost of Sales 50,000 65,164 0.5 32,582

Gross Profit 70,000 69,236 0.5 34,618

Depreciation (10,000) 140/100 (14,000) 0.5 (7,000)

Other operating expenses (40,000) 140/125 (44,800) 0.5 (22,400)

Purchasing power loss (12,667) 0.5 (6,334)

PROFIT FOR THE YEAR 20,000 (2,231) (1,116)

 The purchasining power loss is computed as follows:

Net monetary items, end. - Historical (46K+74K-30K) 90,000

Less: Net monetary items, end. - Restated:

Net monetary assets-Jan.1 (restated) 40K given x 140/120) 46,667
Changes in net monetary items during the year:
Sales (restated)- see worksheet above 134,400
Purchases (restated) - see worksheet above (33,600)

Other operatig expenses (restated) (44,800) 102,667

Purchasing power loss (12,667)
Relevant Provision of
the PFRS for SMEs
 Section 30 Foreign Currency Translation
Two ways of conducting foreign actvities
Foreign activities can be conducted as follows:
1. An entity may enter into foreign currency transactions (e.g.,
import or export transactions that are to be settled in a foreign
currency);or
2. An entity may have foreign operations (e.g., branch in another
country).

Note: This section of the PFRS for SMEs prescribes how to

include foreign currency transactions and foreign operations in
the financial statements of an entity and how to translate
financial statements into a presentation currency.
 Functional Currency

An entity shall identify its functional currency.

An entity’s functional currency is the currency of
the primary economic environment in which the
entityn operates.
The primary economic environment in which an
entity operates is normally the one in which it
primarily generates and expends cash.
 Factors in determining functional currency
The following are the most important factors an entity considers in determining
its functional currency:
a. the currency:
i. that mainly influences sales prices for gods and services, and
ii. of the country whose competitive forces and regulations mainly determine
the sales prices of its goods and services.
b.the currency that mainly influences labor, material and other costs of
providing goods or services 9this will often be the currency in which such costs
are denominated and settled).

The following factors may also provide evidence of the entity’s functional
currency:
a. the currency in which funds from financing activities (issuing debt and
equity instruments) are generated.
b. the currency in which receipts from operating activities are usually
retained.
 Reporting foreign currency transactions in the
functional currency
Initial recognition
A foreign currency transaction is a transaction that is
denominated or requires settlement in a foreign currency, including
transactions arising when an entity:
a. buys or sells goods or services whose price is denominated in a foreign
currency;
b. borrows or lends funds when the amounts payable or receivable are
denominated in a foreign currency; or
c. otherwise acquires or disposes of assets, or incurs or settles liabilities,
denominated in a foreign currency.
On initial recognition, an entity shall record a foreign currency transaction
in the functional currency by applying to the foreign currency amount
the spot exchange rate between the functional currency and the foreign
currency atb the date of the transaction.
 Reporting at the end of the subsequent reporting periods

At the end of each reporting period, an entity shall:

a. Translate foreign currency moetary items using the
closing rate;
b. Translate non-monetary items that are measured in terms
of historical cost in a foreign currency using the exchange
rate at the date of the transaction (historical exchange
rate); and
c. Translate non-monetary items that are measured at fair
value in a foreign currency using the exchange rates at the
date when the fair value was determined.
 Net Investment in a foreign operation
An entity may have a monetary item that is receivable from or payable to foreign operation. An
item for which the settlement is neither planned nor likely to occur in the forseeable future is,
in substance, a part of the entity’s net investment in that foreign operation, and is accounted
for as follows:

a. Exchange differences arising on a monetary item that forms part of a reporting entity’s net
investment in a foreign operation shall be recognized in profit or loss in the separate
financial statements of the reporting entity or the indiidual financial statemennts of the
foreign operation, as appropriate.

b. In the financial statementa that include the foreign operation and the reporting entity (e.g.,
consolidated financial statements when the foreign operation is subsidiary), such exchange
differences shall be recognized initially in the other comprahensive income and reported as
a component of equity. They shall not again be recognized in profit or loss on disposal of the
net investment.

Monetary items that are included as part of the entity’s net investment may include
long-term receivables or loans. They do not include trade receivables or trade payables.
 Change in functional currency

When there is a change in an entity’s functional currency, the

entity shall apply the translation procedures applicable to the
new functional currency prospectively from the date of the
change.
To apply the chage prospectively, an entity translates all
items into the new functional currency using the exchange
rate at the date of the change. The resulting translated
amounts for non-monetary items are treated as their
historical cost.
 Use of a presentation currency other than the functional currency
Translation to the presentation currency
An entity may present its financial statements in any currency (or currencies). If
the presentation currency differes from the entity’s functional currency, the
entity shall translate its items of income and expense and financial position into
the presentation currency.
An entity whose functional currency is not the currency of a hyperinflationary economy
shall translate its results and financial position into a different presentation currency
using the following procedures:

a. Assets and liabilities for each statement of financial position presented (i.e.,
including comparatives) shall be translated at the closing rate at the date of that
statement of finacial position.
b. Income and expenses for each statement of comprehensive income shall be
translated at exchange rates at the dates of the transactions.
c. All resulting exchange differences shall be recognized in other comprehensive
income and reported as a component of equity. They shall not subsequently be
reclassified to profit or loss.
 Notable differences between the provisions of the full
PFRS and the PFRS for SMEs:

Full PFRSs PFRS for SMEs

Net investment in a foreign operation
“On the disposal of a foreign “All exchange differences (reesulting
operation, the cumulative amount of from the translation of a foreign
the exchange differences relating to operation) shall be recognized in other
that foreign operation, recognized in comprehensive income and reported
other comprehensive income and as a component of equity. They shall
accumulated in the separate not subsequently be reclassified to
component of equity, shall be profit or loss.”
reclassified from equity to profit or
loss (as a reclassification adjustment)
when the gain or loss on disposal is
recognized.”