1.19  Query:  

Accounting treatment of losses arising due to difference in exchange rates.

1. A company, with a paid up capital of Rs. 1288 crores, has four units, viz., Bauxite Mine, Aluminium Refinery, Aluminium Smelter and Captive Power Plant. The captive power plant primarily supplies power to aluminium smelter and any surplus power available after meeting smelter needs is sold to Orissa State Electricity Board.

2. The company had taken loans in foreign currency between 1981-86 amounting to US $ 980 million to meet the project costs – both rupee and foreign exchange components. Subsequently, the company had again borrowed Japanese Yen 9 billion (equivalent to US $ 68 million) to meet interest payments and US $ 7 million to meet expected cash loss in 1986-87, totalling to US $ 75 million. The total outstanding foreign debt as on March 1992 was US $ 835 million and the loans are scheduled to be repaid by the year 2002.

3. The present practice of the company is to convert the foreign currency loans in Indian rupees on 31^st March every year by adopting the exchange rate prevailing on that date to perceive the impact of foreign currency conversion loss. Foreign currency conversion loss in respect of long term liabilities other than those incurred for acquisition of fixed assets (US $ 75 million) is calculated and the same is recognised in the profit and loss statement.

4. During the financial year 1991-92, the Indian rupee suffered two major downward adjustments, viz.,

(i)        exchange rate adjustment in July 1991 when the Indian rupee was substantially devalued against all foreign currencies, and

(ii)        making the Indian rupee partially convertible with effect from 1^st March, 1992. Under the ‘Liberalised Exchange Rate Mechanism Scheme’ enunciated by the Reserve Bank of India, debt servicing obligations have to be met by purchasing foreign exchange at the market rates. Further, upto 29^th February, 1992, there was only one exchange rate prevailing in the country, but, from 1^st March, 1992, there are two rates, viz., official exchange rate and free market exchange rate and the latter is about 20% higher than the former. Exchange rates prevailing on the balance sheet date in last 10 years are given in the Annexure.

In line with the past practice, the foreign currency conversion loss, in case of long term liabilities other than those incurred for acquisition of fixed assets, amounted to Rs. 91 crores, which is to be recognised in the profit and loss statement.

5. During the 5 years prior to 31^st March, 1991, the average depreciation of Indian rupee was around 15% per annum and in the financial year 1991-92, Indian rupee depreciated against US $ and JY by 58% and 65% respectively. As per para 9.2 (b) of Accounting Standard (AS) 11, as stated below, foreign currency conversion loss in respect of long term liabilities other than those incurred for the acquisition of fixed assets can be deferred and recognised in the profit and loss statement, provided it is reasonable to expect that recurring exchange losses will not arise in future.

“9.2      (b) In the case of long-term liabilities other than those incurred for the acquisition of fixed assets, if the result of conversion at the closing rate is an overall net gain, such gain is not taken into account and the long term liabilities continue to appear in the books at the rates at which they were originally recorded. On the other hand, if the result is a net loss, the long-term liabilities are restated and the loss is charged in the profit and loss statement. However, such loss can also be deferred and recognised in the Profit and Loss Statement of current and future periods over the remaining term of the liabilities to which they relate. Such deferral is not made if it is reasonable to expect that recurring exchange losses will arise on that item in the future.”

6. The querist is of the view that the expression ‘recurring exchange losses’ in Accounting Standard 11 means normal depreciation of Indian rupee against other foreign currencies. It is reasonable to assume that the magnitude of devaluation occurred in 1991-92 is unlikely to repeat in future.

7. The querist has sought the opinion of the Expert Advisory Committee on the following issues:

(a)        Whether the conversion loss at the closing rate in the case of long-term liabilities other than those incurred for the acquisition of fixed assets can be split into two parts:

                        (i)         pertaining to normal depreciation of Indian rupees in a year, and

                        (ii)        pertaining to devaluation in 1991-92.

(b)        on the basis of the above, can the total amount of conversion loss amounting to Rs. 91 crores incurred by the company be split into two:

(i)         Rs. 21 crores as normal conversion loss (based on 5 year average depreciation of Indian rupee) and

(ii)        Rs. 70 crores pertaining to devaluation of Indian rupees in 1991-92, and can the latter amount be deferred and amortised over the remaining life (7 1/2 years) of the long-term liability?

Annexure

 Opinion*                                  October 7, 1992

1. The Committee notes para 9.2(b) of Accounting Standard (AS) 11 which is reproduced in para 5 of the query.

2. The exchange loss arising during the year on account of normal fluctuations in exchange rates should be charged to the profit and loss account. The Committee is further of the view that exchange rate adjustment in July, 1991, when the Indian rupee was substantially devalued against all foreign currencies, contained an element of the cumulative effect of the fall in the value of Indian rupee in earlier years. Whether further devaluation of the rupee will recur in future is a matter of perception about the future of the Indian economy. The Committee is of the opinion that it is a question of the perception of the management and the auditor whether the devaluation in the rupee is expected to recur in future. If it is perceived that rupee will remain stable in future, the exchange loss on this account can be deferred over the remaining term of long term liabilities.

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* It may be mentioned, that in view of the partial convertibility of the rupee and other related developments in the changed economic environment, the Council of the Institute of Chartered Accountants of India decided to revise Accounting Standard 11. Accordingly, the Council resolved that the mandatory application of this Accounting Standard shall stand postponed to accounts for period commencing on or after 1^st April, 1993. Since the recommendatory status of the Standard was in existence at the time of the issuance of the opinion, it formed the basis of the opinion. Subsequently, in August, 1993, the Standard was withdrawn on the issuance of the Exposure Draft of the revised AS 11