Chapter 7 Foreign currency

Question 1

1.1 IAS 21 Effects of changes in foreign exchange rates: definitions

Answer 1

The objective of IAS 21 is to produce rules that an entity should follow in the translation of foreign currency activities. Exchange rate definitions:
- Historic rate: rate in place at date the transaction takes place (also known as spot rate)
- Closing rate: rates at the reporting date
- Average rate: average rate throughout the accounting period
Asset and liabilities definitions:
- Monetary assets/liabilities: items that can be easily converted into cash (receivables, payables, loans etc)
- Non-monetary items: items that give no right to receive or deliver cash (inventory, PPE etc)
Currency definitions:
- Functional currency: currency of the primary economic environment in which the entity operates
- Presentational currency: the currency in which the financial statements are presented

Question 2

1.2 Initial, settled, and unsettled transactions

Answer 2

Initial transactions translate using the historic rate prevailing at the transaction date. The average rate can also be used if it does not fluctuate significantly during the accounting period.
Settled transactions (payment or receipt occurs during the AP) you translate payment/receipt using the historic rate prevailing at that date. This may be different to the rate at the date of the initial transaction, an exchange difference may arise. This is posted to the P+L.
If a transaction is unsettled at the reporting date, there will be an outstanding receivable or payable on the statement of finance position. Monetary items such as receivables or payables should be retranslated at the closing rate. Exchange differences will arise on these items which are posted to the P+L.

Question 3

1.3 Treatment of exchange differences

Answer 3

If the exchange difference relates to trading transaction it is disclosed within operating income/ operating expenses. If the exchange difference relates to non-trading transaction it is disclosed within interest income/finance costs.

Question 4

1.6 non-monetary items

Answer 4

Cost model: non-monetary items held at cost are initially translated at the HR and carried forward at this value. They are not retranslated subsequently.
Fair value model: a non-monetary asset held at fair value, is initially translated at the HR, and retranslated at the spot rate at the date a fair value is determined. If the change in FV is recognised directly in equity, then any related exchange differences are also recognised in equity. If the change in FV of the item is recognised in the P+L, then any exchange differences are also recognised in the P+L.