presentation currency definition

What’s a functional and presentation currency under IAS 21?

When preparing financial statement a company must determine its functional and presentation currencies.

The functional currency is the currency of the primary economic environment where the entity operates, in most cases this will be the local currency (e.g. Euro in Ireland, GBP in UK)

When determining the functional currency, an entity should consider the following factors:

Primary factors

• The currency than mainly influences sales prices for goods and services
• The currency of the country whose competitive forces and regulations mainly determine the sales price of goods and services
• The currency that mainly influences labour, material and other costs of providing goods and services.

Secondary factors

• The currency from which issuing debt and equity is generated
• The currency in which receipts from operating activities are usually retained

What’s a presentation currency?

The presentation currency is the currency in which the entity presents its financial statements and this may be different from the functional currency, (e.g. If the entity in question is a foreign owned subsidiary. It may have to present its financial statements in the currency of the parent company, even though that is different from their normal trading currency).

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Functional Currency vs Presentation Currency

Determining a company's functional currency is crucial, yet complex. Most would agree that navigating functional vs presentation currency can be confusing.

This article will clearly define functional and presentation currency, providing easy-to-understand examples and outlining straightforward translation procedures per IFRS guidelines.

You'll learn the key differences between functional and presentation currency, how to accurately determine a company's functional currency using primary indicators and secondary factors, and understand the impact currency choice has on financial statement analysis.

Introduction to Functional vs Presentation Currency

The functional currency refers to the primary currency used in a company's operations, while the presentation currency is the currency used to report the company's financial statements. There are some key differences between these two concepts:

Defining Functional Currency IFRS and Presentation Currency

Functional currency is the currency of the primary economic environment in which an entity operates. It reflects the underlying transactions, events, and conditions under which the entity conducts its business.

Presentation currency is the currency in which an entity presents its financial statements. Companies can choose to present their financials in a currency different from their functional currency.

For example, a French company doing most of its business in the Eurozone would likely have the Euro as its functional currency. However, it may present its financial statements in US dollars to make it easier for potential American investors to understand.

Exploring Functional Currency vs Presentation Currency Examples

Here are some examples to illustrate the difference:

A Canadian company that operates mainly in Canada and conducts transactions in Canadian dollars (CAD) would have CAD as its functional currency . If it presents financial statements in CAD, then CAD would also be its presentation currency .

An American company with operations across Europe and Asia that mostly transacts in British Pounds (GBP) would likely have GBP as its functional currency . However, it may present statements in US dollars (USD) for easier investor understanding, making USD its presentation currency .

A multinational company headquartered in Japan but transacting primarily in USD may use USD as its functional currency and JPY as its presentation currency for reporting purposes in its home country.

Significance of Functional Currency vs Local Currency

Choosing an appropriate functional currency is important for accurate financial reporting in international business. Using a non-functional local currency can distort financial statements during currency translation and not portray the true financial situation. On the other hand, the presentation currency can be tailored for investor convenience without impacting the underlying transactions.

What is the difference between functional currency and presentation currency?

The key difference between functional currency and presentation currency relates to which currency is used for measurement and reporting purposes in financial statements.

Functional Currency

The functional currency is the primary currency used by an entity to generate revenues, incur expenses, and operate day-to-day business activities. It is the currency of the primary economic environment in which an entity operates.

Some key indicators for determining an entity's functional currency include:

• The currency that mainly influences sales prices for goods and services
• The currency of the country whose competitive forces and regulations mainly determine the sales prices
• The currency that mainly influences labor, material, and other costs of providing goods or services

Presentation Currency

The presentation currency is the currency in which an entity presents its financial statements. Companies with foreign operations often translate functional currency financial statements into a presentation currency for consolidation purposes.

For example, a French company with a Euro functional currency may translate its financial statements into US Dollars for presentation if it has substantial operations in the United States or its investors are primarily US-based.

Key Differences

The main differences between functional and presentation currencies:

• Purpose - Functional currency reflects day-to-day business operations, while presentation currency is used for financial reporting.
• Determination - Functional currency depends on the primary economic environment, presentation currency is a choice based on user needs.
• Translation - Transactions in non-functional currencies require translation, presentation currencies involve translating entire financial statements.

In summary, the functional currency reflects the practical currency flows of regular business activities, while the presentation currency serves financial statement users and their preferred currency.

What is the difference between transactional currency and functional currency?

Functional currency is the primary currency used in a company's operations, while transactional currency is the currency used for individual transactions. Here are some key differences:

Functional currency reflects the main currency environment in which a company operates. It is usually the currency that mainly influences sales prices, labor, materials and other costs of providing goods or services. Some of the primary indicators for determining functional currency include:

• Currency that mainly influences sales prices
• Currency of the country whose competitive forces and regulations mainly determine sale prices
• Currency that mainly influences labor, materials and other costs
• Currency in which funds from financing activities are generated
• Currency in which receipts from operating activities are usually retained

Transactional currency is the currency used when buying or selling goods, services or assets. It is determined separately for each transaction based on the currency in which the transaction takes place. For example, if a French company purchases materials from a supplier in the U.S., the transactional currency would be USD.

Presentation currency is the currency used to present an entity's financial statements. Companies can choose any currency for financial reporting, regardless of functional currency. Presentation currency does not impact recognition or measurement in the financial statements.

For example, a Canadian company does most of its business in the U.S. Its functional currency is likely USD since that is the primary currency influencing its revenues, expenses, and cash flows. However, it can choose to present its financial statements in CAD as its presentation currency to better report performance to Canadian investors and stakeholders. The choice of presentation currency does not change the underlying recognition or measurement of transactions.

In summary, functional currency depends on a company's primary operating environment, transactional currency is determined separately for each transaction, and presentation currency is an independent choice for financial reporting. Properly distinguishing between these concepts is important from an accounting perspective.

What is an example of a functional currency?

For example, if a US-based multinational oil and gas company that uses the US dollar as its reporting currency maintains a distinct and separable operating subsidiary in Northern Africa that sells all of its oil production in transactions denominated in the US dollar, the US dollar would be the functional currency of that subsidiary.

Some key reasons why the US dollar is the functional currency in this example:

• The subsidiary's oil sales, which are likely the main source of revenue, are all denominated and settled in US dollars. This indicates the US dollar is the main currency influencing sales prices and cash flows.
• As a separable entity dealing almost exclusively in US dollars, the local currency of Northern Africa likely has little direct influence on the subsidiary's operations and transactions.
• The parent company's reporting currency is the US dollar, so maintaining the same functional currency simplifies consolidation and internal reporting.
• Oil is a global commodity typically traded in US dollars on international markets. The local currency likely has little impact on production costs or sales prices.

In summary, the key transactions, events, and conditions that impact this subsidiary's cash flows are primarily denominated in US dollars, making it the most appropriate functional currency based on IFRS guidance. The local currency in Northern Africa has little direct influence.

What is an example of presentation currency?

The subsidiaries use their local currency to prepare their financial statements, whereas the parent company uses USD to prepare its consolidated financial statements. USD, in this case, is called the presentation currency.

Here is an example to illustrate the difference between functional currency and presentation currency:

Consider a company XYZ Inc. that has a subsidiary in the UK. The UK subsidiary conducts all its business and transactions in British Pounds (GBP). So GBP is the functional currency for the UK subsidiary, as it reflects the economic reality of the subsidiary's operations.

However, XYZ Inc. prepares its consolidated financial statements in US dollars (USD). So when the parent company is consolidating the UK subsidiary's financial statements, it has to translate them from GBP to USD using the applicable foreign exchange rates. USD here is simply the presentation currency - it is the currency in which the consolidated financial statements are presented for the benefit of the parent company.

The key difference is:

Functional currency - reflects the underlying transactions, events, and conditions that are relevant to the entity.

Presentation currency - is simply the currency in which the financial statements are presented. It may be different from functional currencies of consolidated entities.

So in this example, GBP is the functional currency (based on UK subsidiary's operations) while USD is the presentation currency (for consolidation purposes at the parent company).

The choice of presentation currency is usually based on factors like investors' location, comparability with industry peers, headquarters location, etc. It does not change the underlying functional currencies used by individual entities for their operations.

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Determining a company's functional currency.

This section outlines the primary and secondary indicators that determine an entity's functional currency under IFRS guidelines.

Primary Indicators of Functional Currency

The currency which mainly influences sales prices and labor, material & other costs is given priority. Also considered is the currency in which funds from financing are generated and retained earnings held.

Some key factors when assessing an entity's functional currency include:

• The currency that mainly influences sales prices for goods and services. This is often the currency in which sales prices for its goods and services are denominated and settled.
• The currency of the country whose competitive forces and regulations mainly determine the sales prices of its goods and services.
• The currency that mainly influences labor, material and other costs of providing goods or services. This will depend on whether the entity's costs are primarily incurred and settled in a particular currency.

Funds from financing activities and the currency in which retained earnings are held and dividends are paid are also key considerations.

Assessing Secondary Factors

Other factors like the currency in which receipts from operating activities are usually retained and whether transactions with the reporting entity are in this currency.

Some secondary indicators to consider:

• The currency in which funds from financing activities are generated
• The currency in which receipts from operating activities are usually retained
• Whether transactions with the reporting entity are usually in a particular currency

These secondary factors can provide additional context in determining an entity's functional currency, especially when the primary indicators do not clearly identify a single currency.

Functional Currency vs Presentation Currency IFRS Compliance

Under IFRS guidelines, an entity's functional currency is the currency of the primary economic environment in which it operates. This is not necessarily the currency in which the entity presents its financial statements (presentation currency).

When an entity's functional currency differs from its presentation currency, it must translate its financial results into the presentation currency using the relevant foreign exchange rates. This translation process can impact revenues, expenses, assets and liabilities reported in the financial statements.

Compliance with IFRS requires entities to determine functional currency based on the primary economic environment, rather than choice. This ensures the financial statements reflect the underlying transactions, events and conditions relevant to the entity.

Careful determination of functional currency using the IFRS guidelines is important, as it has implications for the recognition, measurement and disclosure of transactions in the financial statements. Getting this right is key for comparability, consistency and transparency under IFRS standards .

Translating Foreign Currency Transactions

Spot rate application for initial recognition.

When a transaction denominated in a foreign currency first occurs, it must be translated into the functional currency by applying the spot exchange rate on the date of the transaction. The functional currency is the primary currency used in the company's operations.

For example, if a US company purchased inventory priced at 100,000 Mexican Pesos when the spot rate was 1 USD = 20 MXN, the initial recognition of the inventory in US dollars would be $5,000 (100,000 MXN / 20 MXN per USD). Using the spot rate at the date of initial transaction allows the foreign currency amount to be accurately translated into the functional currency.

End-of-Period Translation Procedures

At the end of each reporting period, foreign currency monetary items must be translated using the closing rate. The closing rate is the current exchange rate on the last day of the reporting period. This translation creates foreign exchange gains and losses that are recognized in profit or loss.

Non-monetary items measured at historical cost continue to use the same exchange rate as at the date of initial recognition. Only monetary items are retranslated at the end of each reporting period.

For example, using the previous example, if at the end of the reporting period the USD/MXN exchange rate changed to 1 USD = 18 MXN, the 100,000 MXN inventory would now translate to $5,555 USD (100,000 / 18). This difference of $555 is recognized as a foreign exchange gain.

Handling Exchange Rate Fluctuations

Foreign currency transactions can create exchange differences when exchange rates fluctuate over time. These exchange differences occur both on settlement of monetary items as well as at each financial reporting date for outstanding foreign currency monetary items.

For practical purposes, these gains and losses arising from foreign currency transactions are generally recognized as an expense item in profit or loss during the period of change. This helps account for the effect movements in exchange rates have on the financial reporting currency from period to period.

Translating Financial Statements into a Presentation Currency

If a company's presentation currency differs from its functional currency, additional translation is required using appropriate exchange rates in order to present uniform financial statements.

Presentation Currency Example: Assets and Liabilities

For financial reporting purposes, assets and liabilities are translated at the closing rate on the date of the financial statements between the functional and presentation currencies.

For example, if a company's functional currency is the Mexican Peso, but it presents financial statements in US Dollars, all assets and liabilities would be translated into US Dollars using the spot exchange rate on the last day of the reporting period. This allows assets and liabilities to be accurately stated in the presentation currency.

Income and Expense Translation Approach

Income and expenses should be translated using actual exchange rates at the dates of transactions, or an appropriate average rate over the reporting period.

Using the previous example, revenue and expenses originally denominated in Mexican Pesos would be translated into US Dollars by applying the exchange rates in effect on the date those transactions occurred. An average exchange rate for the period can also be used for simplification purposes. This method helps avoid distortion from exchange rate fluctuations.

Equity Items Translation Considerations

Components of equity are translated using the exchange rates at the date those components arose, rather than current closing rates at financial statement date.

For instance, common stock issued in Mexican Pesos would use the historical exchange rate at issuance date when translating the stock value into the US Dollar presentation currency. This prevents equity balances from showing artificial gains/losses due to exchange rate changes after stock issuance.

Impact of Functional vs Presentation Currency on Financial Analysis

Using appropriate functional and presentation currencies impacts key financial statement metrics and ratios used by analysts to assess performance.

Effects on Assets, Liabilities, and Equity

Line items reflecting economic events that occurred over past periods can be materially impacted when translated from functional to presentation currency. For example, if a company conducts most of its business in the Euro but reports in US dollars, fluctuations in the EUR/USD exchange rate can significantly impact the reported values of assets, liabilities, and equity over time.

This can distort period-over-period comparisons and trend analysis if the effects of foreign currency translation are not isolated. Analysts evaluating solvency measures like debt-to-equity ratios must understand how choice of presentation currency influences the values used in their models and ratios.

Trend Analysis and Exchange Rate Distortions

Fluctuations in exchange rates between functional and presentation currencies can distort trends in financial metrics over reporting periods. If revenues are earned in a foreign currency but converted to the presentation currency using current exchange rates each period, growth may appear volatile due purely to currency swings.

Similarly, margin analysis can be obscured when cost of goods sold is recorded in one currency but revenue converted at varying rates each period. Analysts must normalize data by using constant exchange rates before modeling trends.

Influence on Financial Ratios

Ratios involving margin analysis, solvency assessments and other metrics can vary significantly depending on currencies used. If a company conducts most business in its functional currency, converting financial statements to a different presentation currency using current exchange rates can introduce distortion.

For example, a company reporting improving profit margins year-over-year in its functional currency could show declining margins in the presentation currency due to exchange rate changes alone. Evaluating performance should focus on functional currency, with presentation conversion impacts isolated.

Conclusion and Key Takeaways

In summary, properly distinguishing between functional and presentation currencies is vital for accurate IFRS-compliant financial reporting and analysis.

Recap of Functional Currency vs Presentation Currency

The functional currency reflects the underlying economics of a company's operations, while the presentation currency allows for uniform financial statement presentation across a multinational company's subsidiaries. Key differences include:

• Functional currency is the currency of the primary economic environment in which an entity operates. It impacts how transactions are recorded and how assets and liabilities are translated.
• Presentation currency is the currency in which financial statements are presented. It allows standardized reporting across geographies.

Importance of Accurate Functional Currency Determination

Companies must carefully evaluate functional currency based on IFRS guidelines and key indicators such as cash flows, sales prices, financing, and expense settlement currencies. Inaccurate functional currency selection can lead to distorted financial reporting.

Implications for Financial Statement Analysis

Using appropriate functional and presentation currencies significantly impacts trends, ratios, and benchmarks used in financial statement analysis :

• Asset valuation - Translating asset costs into different currencies impacts valuations and depreciation.
• Equity - Foreign currency translation directly flows through to equity on the balance sheet.
• Revenue and margin trends - Top-line growth and profitability metrics are skewed by currency swings. Normalizing currency effects is critical for accurate analysis.

Proper determination and application of functional and presentation currencies as dictated by IFRS is vital for financial reporting quality and cross-border financial analysis.

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Presentation Currency, Functional Currency, and Local Currency

A multinational corporation is a firm that has business operations located in at least one country besides its home country. It may engage in transactions that are denominated in foreign currency or invest in foreign subsidiaries that keep their financial records in a foreign currency. This exposes the firm to foreign currency effects. There are three different forms of currencies, as demonstrated below:

Assume that we have a sizable US-based organization, XYZ, i.e., the parent company with three subsidiaries in India, Kenya, and Mexico. At the financial year-end, the Indian company prepares its financial statements in Indian Rupees (INR), the Kenyan company in Kenyan Shillings (KES), and the Mexican company in Mexican Pesos (MXN).

The subsidiaries use their local currency to prepare their financial statements, whereas the parent company uses USD to prepare its consolidated financial statements. USD, in this case, is called the presentation currency . If the Kenyan subsidiary carries out all its transactions in KES , then we say that KES is the functional currency . Assume that XYZ entirely controls the Mexican subsidiary. This means that it makes all operation decisions for the subsidiary, and consequently, all transactions are in USD. In this instance, USD is the functional currency for the Mexican subsidiary.

To summarize the above explanations, we have:

1. Presentation (Reporting) Currency

Presentation currency refers to the currency that the parent company uses to prepare its financial statements. Mostly, a company’s reporting currency is the currency of the country where the company is located.

2. Functional Currency

It is the currency of the primary economic environment in which an entity operates. A company’s management determines its functional currency. It is the currency in which an entity generates and expends cash. The functional currency can be the local currency or some other currency.

3. Local Currency

The national currency of the country in which a foreign firm operates is called the local currency. Typically, the local currency is the entity’s functional currency. For accounting purposes, any currency other than the entity’s functional currency is a foreign currency for that entity.

Question The most accurate definition of the local currency is: A. Any currency other than the parent currency. B. The currency used by the parent company to prepare its financial statements. C. The currency of the country in which a company operates. Solution The correct answer is C . The local currency is the national currency of the country in which a foreign firm operates. A is incorrect . For accounting purposes, any currency other than the entity’s functional currency is a foreign currency for that entity.  B is incorrect . The presentation currency is the currency that the parent company uses to prepare its financial statements.

Reading 13: Multinational Operations

LOS 13 (a) Compare and contrast presentation in (reporting) currency, functional currency, and local currency.

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International Accounting Standard 21  The Effects of Changes in Foreign Exchange Rates  (IAS 21) is set out in  paragraphs 1⁠–⁠62  and the  Appendix . All the paragraphs have equal authority but retain the IASC format of the Standard when it was adopted by the IASB. IAS 21 should be read in the context of its  objective  and the  Basis for Conclusions , the  Preface to IFRS Standards  and the  Conceptual Framework for Financial Reporting .  IAS 8  Accounting Policies, Changes in Accounting Estimates and Errors  provides a basis for selecting and applying accounting policies in the absence of explicit guidance. [ Refer: IAS 8 paragraphs 10⁠–⁠12 ]

International Accounting Standard 21 The Effects of Changes in Foreign Exchange Rates

Definitions, elaboration on the definitions, functional currency.

the currency that mainly influences labour, material and other costs of providing goods or services (this will often be the currency in which such costs are denominated and settled).

Net investment in a foreign operation

Monetary items, summary of the approach required by this standard, reporting foreign currency transactions in the functional currency, initial recognition, reporting at the ends of subsequent reporting periods.

The effect of this comparison may be that an impairment loss is recognised in the functional currency but would not be recognised in the foreign currency, or vice versa.

Recognition of exchange differences

Change in functional currency, use of a presentation currency other than the functional currency, translation to the presentation currency.

These exchange differences are not recognised in profit or loss because the changes in exchange rates have little or no direct effect on the present and future cash flows from operations. The cumulative amount of the exchange differences is presented in a separate component of equity until disposal of the foreign operation. 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.

The Committee observed that those circumstances currently exist in Venezuela.

The Committee discussed whether, in those circumstances, an entity is required to use an official exchange rate(s) in applying IAS 21.

The Committee observed that an entity translates the results and financial position of a foreign operation into its presentation currency applying the requirements in paragraphs 39 and 42 of IAS 21. Those paragraphs require an entity to translate:

The closing rate and the rates at the dates of the transactions

Paragraph 8 of IAS 21 defines (a) the ‘closing rate’ as the spot exchange rate at the end of the reporting period; and (b) the ‘spot exchange rate’ as the exchange rate for immediate delivery. In the light of those definitions, the Committee concluded that the closing rate is the rate to which an entity would have access at the end of the reporting period through a legal exchange mechanism. Accordingly, the Committee observed that in the circumstances described above an entity assesses whether the official exchange rate(s) meets the definition of the closing rate—ie is it the rate to which the entity would have access at the end of the reporting period? Similarly, if the foreign operation’s functional currency is not the currency of a hyperinflationary economy, the entity also assesses whether the official exchange rate(s) represents the exchange rates at the dates of the transactions in applying paragraph 39(b) of IAS 21.

Continuous assessment of facts and circumstances

In the circumstances described above, economic conditions are in general constantly evolving. Therefore, the Committee highlighted the importance of reassessing at each reporting date whether the official exchange rate(s) meets the definition of the closing rate and, if applicable, the exchange rates at the dates of the transactions.

Disclosure requirements

An entity is required to provide information that is relevant to an understanding of an entity’s financial statements (paragraph 112 of  IAS 1   Presentation of Financial Statements ). The Committee highlighted the importance of disclosing relevant information in the circumstances described above. In particular, the Committee observed that the following disclosure requirements may be relevant to an understanding of an entity’s financial statements:

The Committee concluded that the principles and requirements in IFRS Standards provide an adequate basis for an entity to assess whether, in the circumstances described above, it uses the official exchange rate(s) to translate into its presentation currency the results and financial position of a foreign operation. Consequently, the Committee decided not to add this matter to its standard-setting agenda.]

Paragraph 43 of IAS 21 requires an entity to restate the results and financial position of a hyperinflationary foreign operation applying IAS 29 before applying the translation method set out in paragraph 42 of IAS 21 (restate/translate approach). The application of the restate/translate approach may result in a change to the entity’s net investment in the hyperinflationary foreign operation. This change would include two effects:

To illustrate this using a simple example, assume at the beginning of the reporting period that an entity has a 100% interest in a hyperinflationary foreign operation that has a non-monetary asset of 1,000 in local currency (LC), no other assets and no liabilities. Therefore, the foreign operation has net assets (and equity) of LC1,000. The change in the general price index of the hyperinflationary economy during the reporting period is 200%. The entity could, for example, calculate:

The request asked how the entity presents the restatement and translation effects in its statement of financial position.

Do the restatement and translation effects meet the definition of an exchange difference?

Paragraph 8 of IAS 21 defines an exchange difference as the difference ‘resulting from translating a given number of units of one currency into another currency at different exchange rates’. The Committee concluded that, in the fact pattern described in the request, either the translation effect alone meets the definition of an exchange difference, or the combination of the restatement and translation effects meets that definition.

How does an entity present any exchange difference arising from translating a hyperinflationary foreign operation?

The Committee observed that all requirements in IAS 21 that specify the recognition (or presentation) of exchange differences require an entity to recognise (or present) exchange differences in profit or loss or other comprehensive income (OCI). IAS 21 requires the recognition of exchange differences in profit or loss or OCI—with no reference to equity—because exchange differences meet the definition of income or expenses. Accordingly, the Committee concluded that an entity does not recognise exchange differences directly in equity.

Paragraph 7 of  IAS 1   Presentation of Financial Statements  states that components of OCI include ‘gains and losses arising from translating the financial statements of a foreign operation’. Paragraph 41 of IAS 21 explains that exchange differences arising from translating the financial statements of a non-hyperinflationary foreign operation are recognised in OCI⁠–⁠–and not in profit or loss⁠–⁠–because ‘the changes in exchange rates have little or no direct effect on the present and future cash flows from operations’. The Committee observed that this explanation is also relevant if the foreign operation’s functional currency is hyperinflationary. Accordingly, the Committee concluded that an entity presents in OCI any exchange difference resulting from the translation of a hyperinflationary foreign operation.

Applying the requirements in IFRS Standards to the restatement and translation effects

The Committee concluded that, in the fact pattern described in the request, the entity presents:

In the light of its analysis, the Committee considered whether to add a project on the presentation of exchange differences resulting from the restatement and translation of hyperinflationary foreign operations to its standard-setting agenda. The Committee has not obtained evidence that a project with that scope—undertaken in isolation of other aspects of the accounting for hyperinflationary foreign operations—would result in an improvement in financial reporting that would be sufficient to outweigh the costs. Consequently, the Committee decided not to add the matter to its standard-setting agenda.]

Before the foreign operation becomes hyperinflationary, IAS 21 requires an entity to:

The request asked whether the entity reclassifies within equity the cumulative pre-hyperinflation exchange differences once the foreign operation becomes hyperinflationary⁠–⁠–that is, whether the entity transfers the cumulative pre-hyperinflation exchange differences to a component of equity that is not subsequently reclassified to profit or loss.

Paragraph 41 of IAS 21 requires an entity to present the cumulative amount of exchange differences recognised in OCI in a separate component of equity ‘until disposal of the foreign operation’. Further, paragraphs 48 and 48C of IAS 21 require an entity to reclassify the cumulative amount of those exchange differences—or a proportionate share of that cumulative amount—from equity to profit or loss on disposal—or partial disposal—of a foreign operation (except as specified in paragraph 48C).

Accordingly, the Committee concluded that, in the fact pattern described in the request, the entity presents the cumulative amount of the exchange differences as a separate component of equity (to which paragraph 48 or 48C of IAS 21 applies) until disposal or partial disposal of the foreign operation. The entity does not reclassify within equity the cumulative pre-hyperinflation exchange differences once the foreign operation becomes hyperinflationary.

The Committee concluded that the principles and requirements in IAS 21 provide an adequate basis for an entity to determine how to present the cumulative pre-hyperinflation exchange differences once a foreign operation becomes hyperinflationary. Consequently, the Committee decided not to add the matter to its standard-setting agenda.]

With respect to the first issue, the Interpretations Committee observed very little diversity in the application of IAS 21 regarding the principle to use when determining which rate, out of multiple rates, to use to translate an entity’s net investment in a foreign operation. The Interpretations Committee noted that predominant practice is to apply the principle in paragraph 26 of IAS 21, which gives guidance on which exchange rate to use when reporting foreign currency transactions in the functional currency when several exchange rates are available. Hence, despite the issue’s widespread applicability, the Interpretations Committee decided not to take the first issue onto its agenda.

With respect to the second issue, the Interpretations Committee observed that a longer-term lack of exchangeability is not addressed by the guidance in IAS 21, and so it is not entirely clear how IAS 21 applies in such situations. However, the Interpretations Committee thought that addressing this issue is a broader-scope project than it could address. Accordingly, the Interpretations Committee decided not to take this issue onto its agenda.

However, the Interpretations Committee noted that several existing disclosure requirements in IFRS would apply when the impact of foreign exchange controls is material to understanding the entity’s financial performance and position. Relevant disclosure requirements in IFRS include:

The request asked whether the entity restates comparative amounts presented for the foreign operation in:

On the basis of responses to outreach, comment letters received and additional research, the Committee observed little diversity in the application of IAS 21 with respect to the questions in the request⁠–⁠–in applying paragraph 42(b) of IAS 21, entities generally do not restate comparative amounts in their interim or annual financial statements in the situations described above. Therefore, the Committee has not obtained evidence that the matter has widespread effect. Consequently, the Committee decided not to add the matter to its standard-setting agenda.]

Translation of a foreign operation

Disposal or partial disposal of a foreign operation, tax effects of all exchange differences.

net exchange differences recognised in other comprehensive income and accumulated in a separate component of equity, and a reconciliation of the amount of such exchange differences at the beginning and end of the period.

disclose the currency in which the supplementary information is displayed; and

disclose the entity’s functional currency and the method of translation used to determine the supplementary information.

Effective date and transition

Withdrawal of other pronouncements, appendix amendments to other pronouncements.

The amendments in this appendix shall be applied for annual periods beginning on or after 1 January 2005. If an entity applies this Standard for an earlier period, these amendments shall be applied for that earlier period.

The amendments contained in this appendix when this Standard was issued in 2003 have been incorporated into the relevant pronouncements published in this volume.

Board Approvals

Approval by the board of ias 21 issued in december 2003.

International Accounting Standard 21 The Effects of Changes in Foreign Exchange Rates (as revised in 2003) was approved for issue by the fourteen members of the International Accounting Standards Board.

Approval by the Board of Net Investment in a Foreign Operation (Amendment to IAS 21) issued in December 2005

Net Investment in a Foreign Operation (Amendment to IAS 21) was approved for issue by the fourteen members of the International Accounting Standards Board.

Annual Reporting

Knowledge base for IFRS Reporting

IAS 21 Presentation currency

Ias 21 the effects of changes in foreign exchange rates, use of a presentation currency other than the functional currency, translation to the presentation currency.

38 An entity may present its financial statements in any currency (or currencies). If the presentation currency differs from the entity’s functional currency , it translates its results and financial position into the presentation currency . For example, when a group contains individual entities with different functional currencies, the results and financial position of each entity are expressed in a common currency so that consolidated financial statements may be presented.

39 The results and financial position of an entity whose functional currency is not the currency of a hyperinflationary economy shall be translated into a different presentation currency using the following procedures:

• assets and liabilities for each statement of financial position presented (ie including comparatives) shall be translated at the closing rate at the date of that statement of financial position;
• income and expenses for each statement presenting profit or loss and other comprehensive income (ie including comparatives) shall be translated at exchange rates at the dates of the transactions; and
• all resulting exchange differences shall be recognised in other comprehensive income .

40 For practical reasons, a rate that approximates the exchange rates at the dates of the transactions, for example an average rate for the period, is often used to translate income and expense items. However, if exchange rates fluctuate significantly, the use of the average rate for a period is inappropriate.

41 The exchange differences referred to in paragraph 39(c) result from:

• translating income and expenses at the exchange rates at the dates of the transactions and assets and liabilities at the closing rate .
• translating the opening net assets at a closing rate that differs from the previous closing rate .

These exchange differences are not recognised in profit or loss because the changes in exchange rates have little or no direct effect on the present and future cash flows from operations. The cumulative amount of the exchange differences is presented in a separate component of equity until disposal of the foreign operation .

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.

42 The results and financial position of an entity whose functional currency is the currency of a hyperinflationary economy shall be translated into a different presentation currency using the following procedures:

• all amounts (ie assets, liabilities, equity items, income and expenses , including comparatives) shall be translated at the closing rate at the date of the most recent statement of financial position, except that
• when amounts are translated into the currency of a non-hyperinflationary economy, comparative amounts shall be those that were presented as current year amounts in the relevant prior year financial statements (ie not adjusted for subsequent changes in the price level or subsequent changes in exchange rates).

43 When an entity’s functional currency is the currency of a hyperinflationary economy, the entity shall restate its financial statements in accordance with IAS 29 before applying the translation method set out in paragraph 42, except for comparative amounts that are translated into a currency of a non-hyperinflationary economy (see paragraph 42(b)).

When the economy ceases to be hyperinflationary and the entity no longer restates its financial statements in accordance with IAS 29, it shall 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.

Translation of a foreign operation

44 Paragraphs 45–47, in addition to paragraphs 38–43, apply when the results and financial position of a foreign operation are translated into a presentation currency so that the foreign operation can be included in the financial statements of the reporting entity by consolidation or the equity method .

45 The incorporation of the results and financial position of a foreign operation with those of the reporting entity follows normal consolidation procedures, such as the elimination of intragroup balances and intragroup transactions of a subsidiary (see IFRS 10 Consolidated Financial Statements ).

However, an intragroup monetary asset (or liability ), whether short-term or long-term, cannot be eliminated against the corresponding intragroup liability (or asset) without showing the results of currency fluctuations in the consolidated financial statements . This is because the monetary item represents a commitment to convert one currency into another and exposes the reporting entity to a gain or loss through currency fluctuations.

Accordingly, in the consolidated financial statements of the reporting entity , such an exchange difference is recognised in profit or loss or, if it arises from the circumstances described in paragraph 32, it is recognised in other comprehensive income and accumulated in a separate component of equity until the disposal of the foreign operation .

46 When the financial statements of a foreign operation are as of a date different from that of the reporting entity , the foreign operation often prepares additional statements as of the same date as the reporting entity ’s financial statements.

When this is not done, IFRS 10 allows the use of a different date provided that the difference is no greater than three months and adjustments are made for the effects of any significant transactions or other events that occur between the different dates.

In such a case, the assets and liabilities of the foreign operation are translated at the exchange rate at the end of the reporting period of the foreign operation .

Adjustments are made for significant changes in exchange rates up to the end of the reporting period of the reporting entity in accordance with IFRS 10. The same approach is used in applying the equity method to associates and joint ventures in accordance with IAS 28 (as amended in 2011).

47 Any goodwill arising on the acquisition of a foreign operation and any fair value adjustments to the carrying amounts of assets and liabilities arising on the acquisition of that foreign operation shall be treated as assets and liabilities of the foreign operation . Thus they shall be expressed in the functional currency of the foreign operation and shall be translated at the closing rate in accordance with paragraphs 39 and 42.

Disposal or partial disposal of a foreign operation

48 On the disposal of a foreign operation , the cumulative amount of the exchange differences relating to that foreign operation , recognised in other comprehensive income and accumulated in the separate component of equity , shall be reclassified from equity to profit or loss (as a reclassification adjustment) when the gain or loss on disposal is recognised (see IAS 1 Presentation of Financial Statements (as revised in 2007)).

48A In addition to the disposal of an entity’s entire interest in a foreign operation , the following partial disposals are accounted for as disposals:

• when the partial disposal involves the loss of control of a subsidiary that includes a foreign operation , regardless of whether the entity retains a non-controlling interest in its former subsidiary after the partial disposal; and
• when the retained interest after the partial disposal of an interest in a joint arrangement or a partial disposal of an interest in an associate that includes a foreign operation is a financial asset that includes a foreign operation .

48B On disposal of a subsidiary that includes a foreign operation , the cumulative amount of the exchange differences relating to that foreign operation that have been attributed to the non-controlling interests shall be derecognised, but shall not be reclassified to profit or loss .

48C On the partial disposal of a subsidiary that includes a foreign operation , the entity shall re- attribute the proportionate share of the cumulative amount of the exchange differences recognised in other comprehensive income to the non-controlling interests in that foreign operation .

In any other partial disposal of a foreign operation the entity shall reclassify to profit or loss only the proportionate share of the cumulative amount of the exchange differences recognised in other comprehensive income .

48D A partial disposal of an entity’s interest in a foreign operation is any reduction in an entity’s ownership interest in a foreign operation , except those reductions in paragraph 48A that are accounted for as disposals.

49 An entity may dispose or partially dispose of its interest in a foreign operation through sale, liquidation, repayment of share capital or abandonment of all, or part of, that entity. A write-down of the carrying amount of a foreign operation , either because of its own losses or because of an impairment recognised by the investor, does not constitute a partial disposal. Accordingly, no part of the foreign exchange gain or loss recognised in other comprehensive income is reclassified to profit or loss at the time of a write-down.

Excerpts from IFRS Standards come from the Official Journal of the European Union (© European Union, https://eur-lex.europa.eu). Individual jurisdictions around the world may require or permit the use of (locally authorised and/or amended) IFRS Standards for all or some publicly listed companies.  The information provided on this website is for general information and educational purposes only and should not be used as a substitute for professional advice. The specific status of IFRS Standards should be checked in each individual jurisdiction . Use at your own risk. Annualreporting is an independent website and it is not affiliated with, endorsed by, or in any other way associated with the IFRS Foundation. For official information concerning IFRS Standards, visit IFRS.org or the local representative in your jurisdiction .

IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency IAS 21 Presentation currency

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Presentation Currency

The currency in which the financial statements of an entity are prepared and presented. It is the currency that an entity uses to record and measure its transactions. A presentation currency is used to present the relevant financial information about an entity’s operations and activities in its accounting records (including financial statements). Typically, this currency is the currency of the country in which the entity operates. In general, it is the monetary unit of account of the primary economic environment where the entity carries out its transactions and conducts its business with the other economic agents within that environment.

The currency is not presentation currency to an entity is known as a foreign currency .

In multiple context, a presentation currency may be also referred to as a  functional currency , base currency , accounting currency , reporting currency , primary currency, etc.

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Currency Translation: Accounting Methods, Risks, and Examples

Daniel Liberto is a journalist with over 10 years of experience working with publications such as the Financial Times, The Independent, and Investors Chronicle.

Katrina Ávila Munichiello is an experienced editor, writer, fact-checker, and proofreader with more than fourteen years of experience working with print and online publications.

What Is Currency Translation?

Currency translation is the process of converting one currency in terms of another, often in the context of the financial results of a parent company's foreign subsidiaries into its functional currency —the currency of the primary economic environment in which an entity generates and expends cash flows.

For transparency purposes, companies with overseas ventures are, when applicable, required to report their accounting figures in one currency.

Key Takeaways

• Currency translation allows a company with foreign operations or subsidiaries to reconcile all of its financial statements in terms of its local, or functional currency.
• Currency translations use the exchange rate at the end of the reported period for assets and liabilities, the exchange rate on the date that income or an expense was recognized for the income statement, and a historical exchange rate at the date of entry to shareholder equity.
• There are two main methods of currency translation accounting: the current method, for when the subsidiary and parent use the same functional currency; and the temporal method for when they do not.
• Translation risk arises for a company when the exchange rates fluctuate before financial statements have been reconciled. This risk can be hedged with currency derivatives or forex positions.

How Currency Translation Works

Many companies, particularly big ones, are multinational, operating in various regions of the world that use different currencies . If a company sells into a foreign market and then sends payments back home, earnings must be reported in the currency of the place where the majority of cash is primarily earned and spent. Alternatively, in the rare case that a company has a foreign subsidiary , say in Brazil, that does not transfer funds back to the parent company, the functional currency for that subsidiary would be the Brazilian real.

Before a foreign entity's financial statements can translate into the reporting currency, the foreign unit's financial statements must be prepared in accordance with General Accepted Accounting Principles  (GAAP) rules. When that condition is satisfied, the financial statements expressed in the functional currency should use the following exchange rates for translation:

• Assets and Liabilities : The exchange rate between the functional currency and reporting currency at the end of the period.
• Income Statement : The exchange rate on the date that income or an expense was recognized; a weighted average rate during the period is acceptable.
• Shareholder Equity : The historical exchange rate at the date of entry to shareholder equity; the change in retained earnings uses historical exchange rates of each period's income statement.

Gains and losses resulting from currency conversions are recorded in financial statements. The change in foreign currency translation is a component of  accumulated other comprehensive income , presented in a company's consolidated statements of shareholders' equity and carried over to the consolidated balance sheet under shareholders' equity.

If a company has operations abroad that keep books in a foreign currency, it will disclose the above methodology in its  footnotes under "Note 1 - Summary of Significant Accounting Policies" or something substantially similar.

The Financial Accounting Standards Board (FASB) Accounting Standards Codification Topic 830, entitled "Foreign Currency Matters," offers a comprehensive guide on the measurement and translation of foreign currency transactions.

Currency Translation Accounting Methods

There are two main accounting standards for handling currency translation.

• The current rate method : A method of foreign currency translation where most items in the financial statements are translated at the current exchange rate. The current rate method is utilized in instances where the subsidiary isn't well integrated with the parent company, and the local currency where the subsidiary operates is the same as its functional currency.
• The temporal method : Also known as the historical method, this technique converts the currency of a foreign subsidiary into the currency of the parent company. The temporal method is used when the local currency of the subsidiary is not the same as the currency of the parent company. Differing exchange rates are used depending on the financial statement item being translated.

Translation Risk

Translation risk is the exchange rate risk associated with companies that deal in foreign currencies and list foreign assets on their balance sheets.

Companies that own  assets  in foreign countries, such as plants and equipment, must convert the value of those assets from the foreign currency to the home country's currency for accounting purposes. In the U.S., this accounting translation is typically done on a quarterly and annual basis. Translation risk results from how much the assets' value fluctuate based on exchange rate movements between the two counties involved.

Multinational corporations with international offices have the greatest exposure to translation risk. However, even companies that don't have offices overseas but sell products internationally are exposed to translation risk. If a company earns revenue in a foreign country, it must convert that revenue into its home or local currency when it reports its financials at the end of the quarter. 

Example of Currency Translation

International sales accounted for 64% of Apple Inc.’s revenue in the quarter ending Dec. 26, 2020. In recent years, a recurring theme for the iPhone maker and other big multinationals has been the adverse impact of a rising U.S. dollar. When the greenback strengthens against other currencies, it subsequently weighs on international financial figures once they are converted into U.S. dollars.

The likes of Apple seek to overcome adverse fluctuations in foreign exchange rates by hedging their exposure to currencies. Foreign exchange (forex) derivatives , such as futures contracts and options, are acquired to enable companies to lock in a currency rate and ensure that it remains the same over a specified period of time.

Constant Currencies

Constant currencies is another term that often crops up in financial statements. Companies with overseas operations often choose to publish reported numbers alongside figures that strip out the effects of exchange rate fluctuations. Investors generally pay a lot of attention to constant currency figures as they recognize that currency movements can mask the true financial performance of a company.

In its fiscal second-quarter ending Nov. 30, 2020, Nike Inc. reported a 9% increase in revenues, adding that sales rose 7% on a constant currency basis.

Financial Accounting Standards Board. " Statement of Financial Accounting, Standards No. 52, Foreign Currency Translation ," Page FAS52-4 and 5. Accessed March 31, 2021.

Financial Accounting Standards Board. " Statement of Financial Accounting, Standards No. 52, Foreign Currency Translation ," Page FAS52-5. Accessed March 31, 2021.

Deloitte. " A Roadmap to Foreign Currency Transactions and Translations ," Page 7. Accessed March 31, 2021.

Financial Accounting Standards Board. " Statement of Financial Accounting, Standards No. 52, Foreign Currency Translation ," Page FAS52-7. Accessed March 31, 2021.

Financial Accounting Standards Board. " Foreign Currency Matters (Topic 830) ." Accessed March 31, 2021.

Apple. " Apple Reports First Quarter Results ." Accessed March 31, 2021.

Nike. " Nike, Inc. Reports Fiscal 2021 Second Quarter Results ." Accessed March 31, 2021.

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CPD technical article

01 March 2009

IAS 21 the effects of changes in foreign exchange rates

Multiple-choice questions

Graham Holt

Graham holt explains the importance of exchange rates when it comes to accounting for any transactions carried out in foreign currencies, this article was first published in the march 2009 edition of  accounting and business  magazine., studying this technical article and answering the related questions can count towards your verifiable cpd if you are following the unit route to cpd and the content is relevant to your learning and development needs. one hour of learning equates to one unit of cpd. we'd suggest that you use this as a guide when allocating yourself cpd units..

The purpose of IAS 21 is to set out how to account for transactions in foreign currencies and foreign operations.

The standard shows how to translate financial statements into a presentation currency, which is the currency in which the financial statements are presented. This contrasts with the functional currency, which is the currency of the primary economic environment in which the entity operates.

Key issues are the exchange rates, which should be used, and where the effects of changes in exchange rates are recorded in the financial statements.

Functional currency is a concept that was introduced into IAS 21, The Effects of Changes in Foreign Exchange Rates , when it was revised in 2003. The previous version of IAS 21 used a concept of reporting currency. In revising IAS 21 in 2004, the IASB’s main aim was to provide additional guidance on the translation method and determining the functional and presentation currencies.

The functional currency should be determined by looking at several factors. This currency should be the one in which the entity normally generates and spends cash, and that in which transactions are normally denominated. All transactions in currencies other than the functional currency are treated as transactions in foreign currencies.

The entity’s functional currency reflects the transactions, events and conditions under which the entity conducts its business. Once decided on, the functional currency does not change unless there is a change in the underlying nature of the transactions and relevant conditions and events. Foreign currency transactions should initially be recorded at the spot rate of exchange at the date of the transaction. An approximate rate can be used. Subsequently, at each balance sheet date, foreign currency monetary amounts should be reported using the closing rate. Non-monetary items measured at historical cost should be reported using the exchange rate at the date of the transaction. Non-monetary items carried at fair value, however, should be reported at the rate that existed when the fair values were determined.

Exchange differences arising on monetary items are reported in profit or loss in the period, with one exception. The exception is that exchange differences arising on monetary items that form part of the reporting entity’s net investment in a foreign operation are recognised in the group financial statements, within a separate component of equity. They are recognised in profit or loss on disposal of the net investment. If a gain or loss on a non-monetary item is recognised in equity (for example, property, plant and equipment revalued under IAS 16), any foreign exchange gain or loss element is also recognised in equity.

Presentation currency and functional currency

An entity can present its financial statements in any currency. If the presentation currency differs from the functional currency, the financial statements are retranslated into the presentation currency. If the financial statements of the entity are not in the functional currency of a hyperinflationary economy, then they are translated into the presentation currency as follows:

• Assets and liabilities (including any goodwill arising on the acquisition and any fair value adjustment) are translated at the closing spot rate at the date of that balance sheet
• Income statements are translated at the spot rate at the date of the transactions (average rates are allowed if there is no great fluctuation in the exchange rates)
• All exchange differences are recognised in a separate component of equity.

At the entity level, management should determine the functional currency of the entity based on the requirements of IAS 21.

An entity does not have a choice of functional currency. All currencies, other than the functional one, are treated as foreign currencies. An entity’s management may choose a different currency from its functional one – the presentation currency – in which to present financial statements.

At the group level, various entities within a multinational group will often have different functional currencies. The functional currency is identified at entity level for each group entity. Each group entity translates its results and financial position into the presentation currency of the reporting entity.

Normal consolidation procedures are followed for the preparation of the consolidated financial statements, once all the consolidated entities have prepared their financial information in the appropriate presentation currency.

Translation of a foreign operation

When preparing group accounts, the financial statements of a foreign subsidiary should be translated into the presentation currency as set out above. Any goodwill and fair value adjustments are treated as assets and liabilities of the foreign entity, and therefore retranslated at each balance sheet date at the closing spot rate.

Exchange differences on intra-group items are recognised in profit or loss, unless they are a result of the retranslation of an entity’s net investment in a foreign operation when it is classified as equity.

Dividends paid in a foreign currency by a subsidiary to its parent firm may lead to exchange differences in the parent’s financial statements. They will not be eliminated on consolidation, but recognised in profit or loss. When a foreign operation is disposed of, the cumulative amount of the exchange differences in equity relating to that foreign operation is recognised in profit or loss when the gain or loss on disposal is recognised.

The notion of a group functional currency does not exist under IFRS; functional currency is purely an individual entity or business operation-based concept. This has resulted in IAS 21 becoming one of the more complex standards for firms converting to IFRS.

In addition, many multinational groups have found the process time-consuming and challenging, particularly when considering non-trading group entities where the standard’s emphasis on external factors suggests that the functional currency of corporate subsidiaries might well be that of the parent, regardless of their country of incorporation or the currency in which their transactions are denominated.

Entities applying IFRS need to remember that the assessment of functional currency is a key step when considering any change in the group structure or when implementing any new hedging or tax strategies. Furthermore, should the activities of the entity within the group change for any reason, the determination of the functional currency of that entity should be reconsidered to identify the changes required. Management must take care to document the approach followed in the determination of functional currency for each entity within the group, using a consistent methodology across all cases, particularly when an exercise of judgment is required.

Case study 1

An entity, with the dollar as its functional currency, purchases plant from a foreign entity for €18m on 31 May 2008 when the exchange rate was €2 to $1. The entity also sells goods to a foreign customer for €10.5m on 30 September 2008, when the exchange rate was €1.75 to $1. At the entity’s year end of 31 December 2008, both amounts are still outstanding and have not been paid. The closing exchange rate was €1.5 to $1. The accounting for the items for the period ending 31 December 2008 would be as follows:

The entity records the plant and liability at $9m at 31 May 2008. At the year-end, the amount has not been paid. Thus using the closing rate of exchange, the amount payable would be retranslated at $12m, which would give an exchange loss of $3m in profit or loss. The asset remains at $9m before depreciation.

The entity will record a sale and trade receivable of $6m. At the year-end, the trade receivable would be stated at $7m, which would give an exchange gain of $1m that would be reported in profit or loss. IAS 21 does not specify where exchange gains and losses should be shown in the statement of comprehensive income.

Case study 2

An entity has a 100%-owned foreign subsidiary, which has a carrying value at a cost of $25m. It sells the subsidiary on 31 December 2008 for €45m. As at 31 December 2008, the credit balance on the exchange reserve, which relates to this subsidiary, was $6m. The functional currency of the entity is the dollar and the exchange rate on 31 December 2008 is $1 to €1.5. The net asset value of the subsidiary at the date of disposal was $28m.

The subsidiary is sold for $45m divided by 1.5 million, therefore $30m. In the parent entity’s accounts a gain of $5m will be shown. In the group financial statements, the cumulative exchange gain in reserves will be transferred to profit or loss, together with the gain on disposal. The gain on disposal is $30m minus $28m, therefore $2m, which is the difference between the sale proceeds and the net asset value of the subsidiary. To this is added the exchange reserve balance of $6m to give a total gain of $8m, which will be included in the group statement of comprehensive income.

Graham Holt is an ACCA examiner and principal lecturer in accounting and finance at Manchester Metropolitan University Business School

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Presentation Currency – Ind AS 21

Exchange differences

Other examples.

Executive summary of Presentation currency

Let us understand what is a presentation currency and how it is different from the functional currency.

Presentation currency is the currency in which the financial statements are prepared. 

This can be in a currency chosen by the entity as the entity is free to choose its own currency. 

This is mainly for the purpose of presenting the financial statements to the stake holders who are located in another geographical area having a different local currency. 

The main difference between a functional currency and the presentation currency should be understood very clearly. 

Functional currency is determined by applying the factors that are specified in the standard which are known as primary factors. 

If there is a conflict in the primary factors, then the entity should look for secondary indicators.

Selecting the correct functional currency is extremely important as this will have a severe impact on the profit and loss account if not selected properly. 

The functional currency is determined individually for different entities even within the same group and there is no such concept called group functional currency. 

However, presentation currency is selected by the entity as a matter of choice. 

Selecting any currency will have no impact on the profit and loss account.  There could also be a group presentation currency if the group so decides.

What is presentation currency?

• Presentation currency is the currency in which the financial statements are presented
• The presentation currency can be any currency chosen by the entity to present its financial statements to the investors or prospective investors or the other stake holders

Difference between functional currency and presentation currency

• Functional currency is determined based on applying certain indicators specified in the standard viz., primary indicators and secondary indicators
• Priority is given to the primary indicators before considering the secondary indicators which are mainly designed to provide additional supporting evidence for determining the functional currency
• Presentation currency is a currency chosen by the entity to present its financial statements.  An entity has a flexible choice to select any currency

Impact on profit and loss

• Determining proper functional currency is essential as it has a major impact on the net profit of the entity
• Incorrect determination of functional currency leads to inaccurate computation of profit and loss account
• However, selected currency has no impact on the net profit in the case of presentation currency
• Exchange differences on account of presenting the financial statements in a currency other than the functional currency are recognised in other comprehensive income
• The exchange differences do not impact the profit and loss account, as it is not recognised as either income or expense for the period concerned
• Also, a presentation currency does not impact the present and future cash flows of the entity

Monetary and non-monetary items

• A monetary item represents an asset or liability having a right to receive or an obligation to deliver a fixed or determinable number of units of a currency
• The essential feature is that a monetary item should be convertible into a number of determinable number of units of currency
• For example, if an entity borrows money in foreign currency, then the entity should report the same amount in foreign currency as per the terms of the borrowings, irrespective of the foreign exchange rate between the foreign currency in which the amount is borrowed and the functional currency of the entity
• Another example can be an investment made by an entity in a debt instrument, which is classified as measured at amortised cost in foreign currency
• Here, the entity expects to hold the debt instrument till the date of maturity and on such date the entity would get the investments back from the issuer to the extent of the same amount as the maturity value irrespective of the foreign exchange rate between the functional currency of the entity and the foreign currency in which the investment in debt instruments is made
• Pension and other employee benefits to be paid in cash
• Provisions that should be settled by an entity in cash
• Dividends that are payable by an entity which are recognized as liability

Non-monetary items

• In a non-monetary item, there is no existence of the right to receive or the obligation to pay a fixed or determinable number of units of a currency
• An entity has invested in equity shares denominated in foreign currency.  The investments would be realised by the entity whenever the same is liquidated and the money that would be realised would be converted into the functional currency, depending upon the foreign exchange rate
• In other words, the entity cannot insist on the return of the amount at a pre-determined number of units of such foreign currency

Other examples

• Prepaid expenses like amounts paid for goods and services
• Investments in intangible assets
• Investments in property, plant and machinery
• Amount of goodwill and inventories

Ind AS Accounting Standards

Foreign operations – Ind AS 21

Exchange differences on monetary items

Exchange differences from non-monetary items

Difference between monetary and non-monetary items

Treatment of exchange differences – Ind AS 21

Objectives, Scope & Benefits Ind AS 21

Functional Currency – Ind AS 21

Exchange differences from the presentation currency

Miscellaneous items – Ind AS 21

Transaction are covered by Ind AS 21

Recognition and measurement – Ind AS 21

Transaction are outside the scope of Ind AS 21

Financial statements presented in any currency

Difference between FX translation and FX revaluation

Carrying amount of a monetary item, carrying amount of a non-monetary item.

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Foreign operations – Ind AS 21

Functional currency – ind as 21, treatment of exchange differences – ind as 21.

Use of a presentation currency other than the functional currency (AASB121_08-15_COMPmar20_07-21)

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 differs from the entity’s functional currency, it translates its results and financial position into the presentation currency. For example, when a group contains individual entities with different functional currencies, the results and financial position of each entity are expressed in a common currency so that consolidated financial statements may be presented.

The results and financial position of an entity whose functional currency is not the currency of a hyperinflationary economy shall be translated into a different presentation currency using the following procedures:

(a) assets and liabilities for each statement of financial position presented (ie including comparatives) shall be translated at the closing rate at the date of that statement of financial position;

(b) income and expenses for each statement presenting profit or loss and other comprehensive income (ie including comparatives) shall be translated at exchange rates at the dates of the transactions; and

(c) all resulting exchange differences shall be recognised in other comprehensive income.

For practical reasons, a rate that approximates the exchange rates at the dates of the transactions, for example an average rate for the period, is often used to translate income and expense items. However, if exchange rates fluctuate significantly, the use of the average rate for a period is inappropriate.

The exchange differences referred to in paragraph 39(c) result from:

(a) translating income and expenses at the exchange rates at the dates of the transactions and assets and liabilities at the closing rate.

(b) translating the opening net assets at a closing rate that differs from the previous closing rate.

These exchange differences are not recognised in profit or loss because the changes in exchange rates have little or no direct effect on the present and future cash flows from operations. The cumulative amount of the exchange differences is presented in a separate component of equity until disposal of the foreign operation. 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.

The results and financial position of an entity whose functional currency is the currency of a hyperinflationary economy shall be translated into a different presentation currency using the following procedures:

(a) all amounts (ie assets, liabilities, equity items, income and expenses, including comparatives) shall be 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 shall be those that were presented as current year amounts in the relevant prior year financial statements (ie not adjusted for subsequent changes in the price level or subsequent changes in exchange rates).

When an entity’s functional currency is the currency of a hyperinflationary economy, the entity shall restate its financial statements in accordance with AASB 129 before applying the translation method set out in paragraph 42 , except for comparative amounts that are translated into a currency of a non-hyperinflationary economy (see paragraph 42(b) ). When the economy ceases to be hyperinflationary and the entity no longer restates its financial statements in accordance with AASB 129 , it shall 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.

Translation of a foreign operation

Paragraphs 45–47 , in addition to paragraphs 38–43 , apply when the results and financial position of a foreign operation are translated into a presentation currency so that the foreign operation can be included in the financial statements of the reporting entity by consolidation or the equity method.

The incorporation of the results and financial position of a foreign operation with those of the reporting entity follows normal consolidation procedures, such as the elimination of intragroup balances and intragroup transactions of a subsidiary (see AASB 10 Consolidated Financial Statements ). However, an intragroup monetary asset (or liability), whether short-term or long-term, cannot be eliminated against the corresponding intragroup liability (or asset) without showing the results of currency fluctuations in the consolidated financial statements. This is because the monetary item represents a commitment to convert one currency into another and exposes the reporting entity to a gain or loss through currency fluctuations. Accordingly, in the consolidated financial statements of the reporting entity, such an exchange difference is recognised in profit or loss or, if it arises from the circumstances described in paragraph 32 , it is recognised in other comprehensive income and accumulated in a separate component of equity until the disposal of the foreign operation.

When the financial statements of a foreign operation are as of a date different from that of the reporting entity, the foreign operation often prepares additional statements as of the same date as the reporting entity’s financial statements. When this is not done, AASB 10 allows the use of a different date provided that the difference is no greater than three months and adjustments are made for the effects of any significant transactions or other events that occur between the different dates. In such a case, the assets and liabilities of the foreign operation are translated at the exchange rate at the end of the reporting period of the foreign operation. Adjustments are made for significant changes in exchange rates up to the end of the reporting period of the reporting entity in accordance with AASB 10 . The same approach is used in applying the equity method to associates and joint ventures in accordance with AASB 128 .

Any goodwill arising on the acquisition of a foreign operation and any fair value adjustments to the carrying amounts of assets and liabilities arising on the acquisition of that foreign operation shall be treated as assets and liabilities of the foreign operation. Thus they shall be expressed in the functional currency of the foreign operation and shall be translated at the closing rate in accordance with paragraphs 39 and 42 .

Disposal or partial disposal of a foreign operation

On the disposal of a foreign operation, the cumulative amount of the exchange differences relating to that foreign operation, recognised in other comprehensive income and accumulated in the separate component of equity, shall be reclassified from equity to profit or loss (as a reclassification adjustment) when the gain or loss on disposal is recognised (see AASB 101 Presentation of Financial Statements ).

In addition to the disposal of an entity’s entire interest in a foreign operation, the following partial disposals are accounted for as disposals:

(a) when the partial disposal involves the loss of control of a subsidiary that includes a foreign operation, regardless of whether the entity retains a non-controlling interest in its former subsidiary after the partial disposal; and

(b) when the retained interest after the partial disposal of an interest in a joint arrangement or a partial disposal of an interest in an associate that includes a foreign operation is a financial asset that includes a foreign operation.

On disposal of a subsidiary that includes a foreign operation, the cumulative amount of the exchange differences relating to that foreign operation that have been attributed to the non-controlling interests shall be derecognised, but shall not be reclassified to profit or loss.

On the partial disposal of a subsidiary that includes a foreign operation, the entity shall re-attribute the proportionate share of the cumulative amount of the exchange differences recognised in other comprehensive income to the non-controlling interests in that foreign operation. In any other partial disposal of a foreign operation the entity shall reclassify to profit or loss only the proportionate share of the cumulative amount of the exchange differences recognised in other comprehensive income.

A partial disposal of an entity’s interest in a foreign operation is any reduction in an entity’s ownership interest in a foreign operation, except those reductions in paragraph 48A that are accounted for as disposals.

An entity may dispose or partially dispose of its interest in a foreign operation through sale, liquidation, repayment of share capital or abandonment of all, or part of, that entity. A write-down of the carrying amount of a foreign operation, either because of its own losses or because of an impairment recognised by the investor, does not constitute a partial disposal. Accordingly, no part of the foreign exchange gain or loss recognised in other comprehensive income is reclassified to profit or loss at the time of a write-down.