Chapter 1

Chapter 1 :
Foreign exchange
(IAS 21)
Tăng Thành Minh Xuân
1
Foreign exchange
1.1 DEFINITIONS OF TERMS
1.2 SCOPE, OBJECTIVES, AND
DISCUSSION OF DEFINITIONS
 Functional currency
 Monetary and Nonmonetary items
 Foreign currency transactions
 Translation of foreign currency
financial statements
1.3 DISCLOSURE
2
Related Standards
 IAS 21 The effects of

changes in foreign
exchange rates
3
1.2.1 Functional currency
4
In determining the relevant functional currency, an
entity would give primary consideration to the
following factors:
(1) The currency that mainly influences sales prices
for goods and services,
(2) The currency of the country whose competitive
forces and regulations mainly determine the sales
prices of the entity’s goods and services
(3) The currency that primarily influences labor,
material, and other costs of providing those goods or
services.
5
IAS 21 notes other factors which may provide
additional evidence of an entity’s functional
currency. These may be deemed secondary
considerations, and these are:
(4) The currency in which funds from financing
activities (i.e., from the issuance of debt and equity
instruments) are generated;
(5) The currency in which receipts from operating
activities are usually retained.
6
Ex 1 : A stand alone entity (not a foreign
operation of another entity) manufactures a
product for the local market in country A. Its
sales are denominated in the local currency
(LCA). The prices of its product in country A is
affected mainly by local supply and demand
and regulations.All of the entity’s inputs are
source in country A and the prices of the inputs
are denominated in LCA and are mainly
influenced by economic forces and regulations
in country A.Question : What is the functional
currency of the entity ?
7
Ex 1 :
•The currency that mainly inluences sales
prices for goods and services : LCA
•The currency of the country whose economy
determine the sales prices of the entity’s
goods and services : LCA
•The currency that primarily inluences labor,
material, and other costs : LCA
=> Functional currency : LCA
8
9
Ex 2 :
•The currency that mainly influences sales
prices for goods and services : LCZ
goods and services : LCZ
material : LCZ
•The currency that inluences other cost : LCA
=> Functional currency : LCZ
10
Ex 3 : A stand alone entity (not a foreign
operation of another entity) based in country A
manufactures a product in country A for export
to country B.The entity’s sales prices are nearly
always denominated in LCB (the local currency
of country B) and established predominantly
based on prices set by competitive forces in
country B and by country B’s regulations.
Customers settle in LCB and the entity holds its
excess cash in LCB. Most costs are paid in
LCA. Specialised machinery is purchases from
supplies in country C. Those purchases are
denominates in LCC (the local country C). 11
Ex 3 :
•The currency that mainly inluences sales
prices for goods and services : LCB
goods and services : LCB
material : LCA
•The currency which the entity holds cash :LCB
•The currency that inluences machinery : LCC
=> Functional currency : LCB
12
In making a determination of whether the functional

currency of a foreign operation is the same as that of
the reporting entity , certain additional
considerations may also be relevant
13
(1) Whether the activities of the foreign operation (ctyB)
are carried out as an extension of the reporting entity (cty
A), rather than being executed more or less autonomously;
(2) What proportion of the foreign operation’s activities is
comprised of transactions with the reporting entity;
(3) Whether the foreign operation’s cash flows directly
impact upon the cash lows of the reporting entity, and
are available for prompt remittance to the reporting entity;
(4) Whether the foreign operation is largely cash flow
independent (if its own cash flows are sufficient to service
its existing and reasonably anticipated debts without the
injection of funds by the reporting entity).
14
Ex 4 : A parent company (whose functional
currency is the LCA) manufactures influence
remedies in country A. It has a subsidiary in
country Z. The subsidiary operates with
significant autonomy from the parent.
Management of the subsidiary determine the
price of its products, which are influenced
mainly by local competition and regulation.
The subsidiary manufactures its own products in
country Z with locally sourced raw material and
local labor. It sells its products to customers in
country Z. Question : What is the function
currency of the subsidiary ? 15
The subsidiary operates with significant autonomy
from the parent.
Management of the subsidiary determine the price of
its products
=> The functional currency of the subsidiary is
difference from the functional currency of the parent
•The currency that mainly inluences sales prices for
goods and services : LCZ
determine the sales prices of the entity’s goods and
services : LCZ
•The currency inluences labor, material : LCZ
=> Functional currency : LCZ
16
Ex 5 : A parent entity whose functional currency
is the LCA (the local currency of country A)
manufactures influences remedies in country
A.The parent forms a subsidiary in country B for
the sale purpose of undertaking research and
development activities for the parent. Other than
paying its supplies and employes for raw materials
labor in LCB (local currency of the country B), its
only transactions are with the parent.The
subsidiary is financed mainly by the parent. The
parent provides its subsidiary equipment for
research and development. Question : What is the
functional currency of the subsidiary ?
17
Ex 5 :
The subsidiary’s transactions are with the
parent.The subsidiary is financed mainly by the
parent.
The subsidiary operates dependently => The
functional currency of the subsidiary is the
same with the functional currency of the parent
=> Functional currency of the subsidiary : LCA
18
Presentation currency is the currency in

which the reporting entity’s financial
statements are presented
19
1.2.3 Foreign currency transaction
Foreigncurrency is a currency other

than the functional currency of the
reporting entity
20
•Local currency
•Functional currency
•Presentation currency
•Foreign currency
21
1.2.2 Monetary and nonmonetary
items
•Monetary items are those granting or imposing
“a right to receive, or an obligation to deliver, a fixed or determinable
number of units of currency”
Ex: Cash, account receivble, notes receivable, account payable, notes
payable…
•Nonmonetary items are those exhibiting “the absence of a right to

receive, or an obligation to deliver, a fixed or determinable number o
units of currency.”
Ex: Inventory (goods, material,…), tangible (machine, building, …)
prepaid expense
22
Foreign currency transactions are those

denominated in, or requiring settlement in,
a foreign currency :
• The purchase or sale of goods or services
• The borrowing or lending of funds,
• Other routine activities such as the
acquisition or disposal of assets
23
Foreign currency transactions are to

be initially recorded in the functional
currency by applying to the foreign
currency denominated amounts the spot
exchange rate between the functional
currency and the foreign currency at the
date of the transaction
24
According to IAS 21, at each end of the

reporting period the foreign currency
monetary items (such as payables and
receivables) are to be translated using the
closing rate (i.e., the exchange rate at the
date of the statement of financial position).
25
•If the nonmonetary items are measured in terms of
historical cost in a foreign currency, then these are to be
translated by using the exchange rate at the actual
historical date of the transaction.
•Ifthe item has been restated to a fair value

measurement, then it must be translated into the
functional currency by applying the exchange rate at
the date when the fair value was determined.
26
Initial Exchange rate at the date
recording of the transaction
Monetary Exchange rate at the end

items of reporting period
The (closing rate)
end of
period
Exchange rate at the
Nonmonetary date of the initial
items* transaction (historical
rate)
(*) : historical cost accounting 27
(IAS21.28) Exchange differences arising from foreign

currency monetary items are reported in profit or loss
in the period.
28
Ex 6 : An entity with a functional

currency of CU borrows FCU
100,000 from a bank when the spot
exchange rate is CU1 = FCU 2.5
29
Ex 6 :
Dr Cash CU 40,000
Cr Loan payable CU 40,000
(FCU10,000 : 2.5 = CU40,000)
30

currency of CU sells inventory with a
carrying amount of CU10,000 to a
customer on credit for FCU 30,000.
The spot exchange rate is CU1 =
FCU 2
31
Ex 7 :
Dr Cost of goods sold CU10,000
Cr Inventory CU10,000
Dr Trade receivable CU15,000
Cr Sale revenue CU15,000
32

currency of CU buys a machine from
an overseas supplier for cash of FCU
10,000. The spot exchange rate is
FCU1 = CU2 on the date the
machine is initially recognized.
33
Ex 8 :
Dr Machine CU20,000
Cr Cash CU20,000
34
Ex 9 : On 24 December 20X1 on entity with a
functional currency of CU buys raw materials
from a supplier on credit for FCU 100,000.
The entity pays the supplier on 17 January
20X2. The entity has a financial year end of
31 December 20X1.
The spot exchange rates are as follows :
24 Dec 20X1 : CU2 = FCU1
31 Dec 20X1 : CU2.1 = FCU1
17 Jan 20X2 : CU2.05 = FCU1
35
Ex 9 :
•24 Dec 20X1
Dr Raw material CU200,000
Cr Account payable CU200,000
36
Ex 9 :
•24 Dec 20X1
Dr Inventories_Raw material CU200,000
Cr Trade payable CU200,000
•31 Dec 20X1
Dr Exchange Loss CU 10,000
Cr Trade payable CU 10,000
37
Ex 9 :
•24 Dec 20X1
Dr Inventories_Raw material CU200,000
Cr Trade payable CU200,000
•31 Dec 20X1
Dr Exchange Loss CU 10,000
Cr Trade payable CU 10,000
•17 Jan 20X2
Dr Trade payable CU 210,000
Cr Cash CU 205,000
Cr Exchange gain CU 5,000
38
1.2.4 Translation of foreign currency
•IAS 21 adopted the functional currency approach that
requires the foreign entity to present all of its
transactions in its functional currency.
-> Translation is the process of converting

transactions denominated in its functional currency
into the investor’s presentation currency.
39
A. Translation of functional currency inancial
statements into a presentation currency
(1) All assets and liabilities in the current year-end

statement of financial position, should be translated
at the closing rate
(2) Income and expense items in each statement of
comprehensive income should be translated at the
exchange rates at the dates of the transactions, except
when the foreign entity reports in a currency of a
hyperinlationary economy
40
(3) All assets and liabilities in prior period
statements of financial position, being presented
currently (e.g., as comparative information) whether
monetary or nonmonetary, are translated at the exchange
rates (closing rates)
(4) Income and expense items in prior period statements
of income, being presented currently (e.g., as
comparative information), are translated at the exchange
rates as of the dates of the original transactions (or
averages, where appropriate).
41
(5) All resulting exchange differences should be

recognized in other comprehensive income and
reclassiied from equity to profit or loss on the disposal
of the net investment in a foreign entity.
42
B. Translation (remeasurement) of financial
statements into a functional currency.
 Foreign currency monetary items are translated using

the closing rate
 Foreign currency nonmonetary items are translated

using the historical exchange rates.
43
C. Net investment in a foreign operation.
According to IAS 21, when the reporting entity
has a monetary item that is receivable from or
payable to a foreign operation for which
settlement is neither planned nor likely to occur
in the foreseeable future, this is, in substance, a
part of the entity’s net investment in its
foreign operation
44
C. Net investment in a foreign operation.
 Exchange differences arising from translation of
monetary items should be relected in profit or loss in the
separate financial statements of the reporting entity
(investor/parent) and in the separate financial statements
of the foreign operation
 In the consolidated financial statements which
include the investor/parent and the foreign operation, the
exchange difference should be recognized initially in
other comprehensive income and reclassiied from equity
to proit or loss upon disposal of the foreign operation.
45
Ex 10 : On 1 January 20X0 a parent entity
(whose functional currency is CU) made a
FCU 20,000 loan to a foreign subsidiary
(whose functional currency is FCU). The
parent has informed the subsidiary does not
expect to repay the loan. This loan is a part of
parent’s net investment in the foreign
subsidiary.
The exchange rate are as follows :
1 Jan 20X0 : CU1 = FCU2
31Dec 20X0 : CU1 = FCU2.5
46
Ex 10 :
Subsidiary’s financial statement
1 Jan 20X0 : Dr Cash FCU20,000
Cr Loan payable FCU 20,000
Parent’s separate financial statement :
1 Jan 20X0 : Dr Account receivable CU 10,000
Cr Cash CU 10,000
31 Dec 20X0 :
Dr Exchange loss CU2,000
Cr Account receivable CU2,000
Consolidated financial statement
1 Jan 20X0 :
Dr Comprehensive income CU2,000
Cr Exchange loss CU2,000 47
Ex 11 : On 1 Jan 20X0 a parent entity (whose
functional currency is CU ) made a loan
CU10,000 to a foreign subsidiary (whose
functional currency is FCU). The parent has
informed the subsidiary does not expect to
repay. This is a part of parent’s net investment
in the foreign subsidiary.
The exchange rate are as follow :
1 Jan 20X0 : CU1 = FCU2
31 Dec 20X0 : CU1 = FCU 2.1
48
Ex 11 :
Parent’s separate financial statement :
Dr Account receivable CU10,000
Cr Cash CU10,000
Subsidiary’s financial statement :
Dr Cash FCU 20,000
Dr Exchange loss FCU 1,000
Consolidated financial statement :
Dr Comprehensive income CU476
Cr Exchange loss CU476
49
1.3 Disclosure
•When the functional currency is different from

the currency of the country in which the entity is
domiciled, the reason for using a different currency;
•The reason for any change in functional currency or

presentation currency;
50
1.3 Disclosure
•When financial statements are presented in a
currency other than the entity’s functional currency, the
reason for using a different presentation currency, and a
description of the method used in the translation process;
• When financial statements are presented in a currency other

than the functional currency, an entity should state the fact
that the functional currency relects the economic substance of
underlying events and circumstances;
51
Thank you
52

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Chapter 1

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Chapter 1 :

Tăng Thành Minh Xuân

 IAS 21 The effects of

In making a determination of whether the functional

Presentation currency is the currency in

Foreigncurrency is a currency other

•Nonmonetary items are those exhibiting “the absence of a right to

Foreign currency transactions are those

Foreign currency transactions are to

According to IAS 21, at each end of the

•Ifthe item has been restated to a fair value

Monetary Exchange rate at the end

(IAS21.28) Exchange differences arising from foreign

Ex 6 : An entity with a functional

Ex 7 : An entity with a functional

Ex 8 : An entity with a functional

-> Translation is the process of converting

(1) All assets and liabilities in the current year-end

(5) All resulting exchange differences should be

 Foreign currency monetary items are translated using

 Foreign currency nonmonetary items are translated

•When the functional currency is different from

•The reason for any change in functional currency or

• When financial statements are presented in a currency other

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