1.3 Query: Accounting for foreign exchange fluctuations.
1. A public sector shipping company has a fleet of about 126 ships. These ships ply in coastal and foreign waters for loading, unloading cargo, etc. Foreign exchange loans are raised for acquisition of these ships. The company receives part of its revenue in foreign exchange, while the company remits amount in foreign exchange, for the disbursements to its vessels in various ports, to about 110 foreign agents appointed at these ports. In view of these operations, in the accounts of the company, there are foreign exchange balances in various currencies for advances given to the agents and/or amounts spent by them in foreign exchange and also for raising of loans in US dollars, pounds, etc. Hence, a large number of currencies are involved in various transactions of income and expenditure.
2. The company has adopted the accounting policy for conversion of foreign exchange balances as under:
(a) The year-end foreign currency balances of cash and bank, cargo claims, master’s accounts and balances of foreign parties, long term foreign currency loans and deferred credits are converted at the rates published in Financial Times, London, in the last week of March.
(b) All transactions on revenue account (except those pertaining to Russian ports which are booked at the rates fixed by the RBI) during the year are booked at rates published in the last week of the preceding month in Financial Times, London. However,
i) bunker purchases for which payments are made from India, and
ii) payments to charterers in respect of chartered-in vessels, are booked on the basis of actual payments.
(c) Liner freight is booked at rates referred to in (b) above relevant to the month in which the date of sailing falls. Liner freight collectable at the year-end is accounted at the original booking rates.
(d) In respect of those parties where the foreign currency balances are not established, the same are carried forward at the originally booked amounts and difference in exchange is adjusted on actual remittance.
3. The querist has stated that as per para 2 of Accounting Standard (AS) 11 issued by the Institute of Chartered Accountants of India, the exchange rate is the rate quoted by bank or authorised dealer in foreign exchange at which the Rupee may be exchanged for a unit of foreign currency. Closing rate has been defined as exchange rate in force at the end of the accounting period. Further, according to the querist, para 23 of AS 11 stipulates that on each balance sheet date items of foreign currency assets and liabilities not settled during the same accounting period should be converted at the closing rate. Since the company is dealing in a number of foreign currencies or connected with basket of currencies, the company does not get exchange rate for all currencies as on the date of balance sheet, i.e., 31st March. Hence, the company has adopted consistently the policy referred to in para 2(a) above.
4. The querist has further stated that in view of the liberalised policy of ‘Exchange Rate Management’ of the Government, the Reserve Bank of India, vide its instructions from time to time, has made the following stipulation in respect of shipping companies: -
“When shipping companies repatriate their net surpluses to India they will get 40% at Reserve Bank official rate, while balance 60% will be credited at market rate. As against this, for making payments to foreign countries for expenses, exchange will be available at market rate”.
5. The querist has sought the opinion of the Expert Advisory Committee in respect of the following issues:
(i) Whether the company’s policy of converting the foreign currencies at the rates published in Financial Times, London, in the last week of March is in order in view of the practical difficulties experienced by it in getting exchange rate of a large number of currencies on the last date of the year, namely, 31st March?
(ii) Whether other practices for converting various transactions as stated in para 2 (B), (C) & (D) above are in order.
(iii) (a) Whether all assets and liabilities as on 31st March should be converted at market rate or buying/selling rate /Reverse Bank rate? or (b) Whether outstanding foreign exchange receivable should be converted @ 40% at RBI rate and 60% at market rate and balances of foreign parties, e.g., balance of agents, suppliers etc., should be converted at market rate?
Opinion February 10, 1994
The Committee notes that the Institute of Chartered Accountants of India had, in 1989, issued Accounting Standard (AS) 11 (hereinafter referred to as old AS-11) on Accounting for the Effects of Changes in Foreign Exchange Rates, which is the subject of the above query. However, due to convertibility of rupee and other related developments, the Council of the Institute decided to revise the old AS-11 in June, 1992. Accordingly, in August 1993, the old AS-11 was withdrawn and an exposure draft of the revised AS-11 was issued. The Committee also notes that the query primarily pertains to the year ending as on March 31,1992. The Committee has decided to give its opinion in two parts. The first part (Part A) contains the opinion as per old AS 11 and is relevant for the accounts closing before the withdrawal of old AS11. The second part (Part B) contains the opinion as per the Exposure Draft of Revised AS-11 and is applicable to the accounting period ending on or after August 1993. However, in the view of the Committee , in cases where accounts for any accounting period closing before August 1993 are finalised after August, 1993, the opinion in Part B may be followed for such accounts also.
PART A: Opinion as per Accounting Standard (AS) 11, issued by the Institute of Chartered Accountants of India in 1989.
1. The Committee notes that the term ‘exchange rate’ has been defined in paragraph 2 of Accounting Standard (AS) 11 on ‘Accounting for the Effects of Changes in Foreign Exchange Rates’, issued by the Institute of Chartered Accountants of India, as follows:
“Exchange Rate
The rate quoted by a bank or other authorised dealer in foreign exchange at which the Rupee may be exchanged for unit of a foreign currency or a foreign currency may be exchanged for unit of the rupee.”
2. The Committee notes that prior to March 1, 1993, there were two rates of exchange available in India, (i) quoted by the RBI, commonly referred to as the official rate, and (ii) quoted by the authorised dealers in foreign exchange in India, commonly referred to as the market rates. As per exchange rate management regime then in force, net surpluses repatriated by a shipping company in India were convertible partly (40%) at the official rate, and partly (60%) at the market rate. The foreign currency was available only at market rates for making payments. However, with effect from March 1, 1993, when the modified Liberalised Exchange Rate System (LERMs) came into force, all foreign exchange transactions are put through by the authorised dealers at market determined rates of exchange. Therefore, in the view of the Committee , the company should use the following rates for the purposes of accounting of its foreign currency transactions/balances.
(a) For the transactions occurring and the accounts closing before March 1, 1993:
(i) Amount of foreign currency receivables and balance of foreign currency: 40 % at the official rate and the balance at the market rate, or in any other ratio applicable as per the rules in force at the reporting/transaction date.
(ii) Amounts payable in foreign currency at the market rate prevailing at the date of transaction /reporting.
(b) For the transactions occurring and the account closing on or after March 1, 1993: Market rates prevailing at the date of transaction/reporting.
However, the Committee is of the view that if for any foreign currency no rate is quoted either by the RBI or any authorised dealer in India, one may adopt any other authoritative rates available. The rates quoted in Financial Times, London, may be a good indicator in this regard.
3. The Committee also notes paragraph nos. 20, 23, 24(a) and 25(a) of (AS) 11, which read as follows:
“20. A transaction in a foreign currency should, except as provided in paragraph 21, be recorded in rupees by applying to the foreign currency amount the exchange rate existing at the time of the transaction or a standard rate.”
“23. At each balance sheet date, there may be items of foreign currency assets and liabilities, i.e., items to be received or paid in foreign currency, in respect of transactions not settled within the same accounting period. An exercise should be carried out to perceive the impact of converting such items at the closing rate. This conversion process should be carried out separately for the following two categories of items - (a) Current assets and current liabilities and (b) Long-term liabilities. The results of the conversion should be dealt with in the manner described in paragraphs 24 and 25.”
“24. (a) In case of current assets and current liabilities (other than those related to fixed assets), if the result of conversion at the closing rate is an over all net gain, such gain should not be taken into account and the assets and liabilities should 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 current assets and current liabilities should be restated and the loss should be charged in the Profit and Loss Statement.’’
“25 (a) 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 should not be taken into account and the long-term liabilities should 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 should be restated and the loss should be charged in the Profit and Loss Statement. However, such losses 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 permitted if it is reasonable to expect that recurring exchange losses will arise on that item in the future.’’
4. On the basis of the above, the Committee is of the following opinion in respect of the issues raised by the querist in para 5 of the query:
(i) The year-end foreign currency assets (cargo freight balances, cash & bank balances, liner freight collectable etc.) and current liabilities for which an exchange rate is available in India, should be accounted for in accordance with paras 2 and 3 above using the rate specified there in as these rules would be more relevant to an Indian company. Insofar as such foreign currency balances are concerned for which no exchange rate is quoted either by the RBI or any authorised dealer in India, the company may follow paras 2 and 3above by using the rates quoted in Financial Times, London, of 31st March of the relevant year or, in case such rates are not available for 31st March, of a date nearest thereto for which such rates are available.
(ii) All transactions on revenue account mentioned in para 2(b) & (c) of the query, e.g., relating to bunker purchases, payments to charterers and liner freight, which have been settled during the financial year itself should be accounted for as stated in paras 2 and 3 above.
(iii) Whether foreign currency balances are not yet established as at the reporting date, the same may be carried forward at the originally booked amounts with appropriate disclosure. However, this should not be made a normal practice, It must be so arranged that accounts of all parties as at the reporting date are available.
PART B: Opinion as per Exposure Draft of Revised Accounting Standard (AS) 11, issued by the Accounting Standards Board of the Institute of Chartered Accountants of India in August, 1993.*
1. The Committee notes that exposure draft of revised Accounting Standard (AS) 11, issued by the Accounting Standards Board of the Institute of Chartered Accountants of India defines the term ‘exchange rate’ as follows:
“Exchange rate is the ratio for exchange of two currencies as applicable to the realisation of a specific asset or the payment of a specific liability or the recording of a specific transaction or a group of inter-related transactions.”
2. The Committee notes that prior to March 1, 1993, there were two rates of exchange available in India, (i) quoted by the RBI, commonly referred to as the official rate, and (ii) quoted by authorised dealers in foreign exchange in India, commonly referred to as the market rates. As per exchange rate management regime then in force, net surpluses repatriated by a shipping company in India were convertible partly (40%) at the official rate, and partly (60%) at the market rate. The foreign currency was available only at market rates for making payments. However, with effect from March 1, 1993, when the modified Liberalised Exchange Rate System (LERMs) came into force, all foreign exchange transactions are put through by the authorised dealers at market determined rates of exchange. Therefore, in the view of the Committee , the company should use the following rates for the purposes of accounting of its foreign currency transactions/balances.
(a) For the transactions occurring and the accounts closing before March 1, 1993:
(i) Amount of foreign currency receivables and balance of foreign currency: 40% at the official rate and the balance at the market rate, or in any other ratio applicable as per the rules in force at the reporting /transaction date.
(ii) Amounts payable in foreign currency at the market rate prevailing at the date of transaction/reporting.
(b) For the transactions occurring and the accounts closing on or after March 1, 1993: Market rates prevailing at the date of transaction/reporting.
However, the Committee is of the view that if for any foreign currency no rate is quoted either by the RBI or any authorised dealer in India, one may adopt any other authoritative rates available. The rates quoted in Financial Times, London, may be a good indicator in this regard.
3. The Committee notes paras 5, 7 and 9 of exposure draft of revised Accounting Standard (AS) 11, issued by the Accounting Standards Board of the Institute of Chartered Accountants of India which read as follows:
“5. A transaction in a foreign currency should be recorded in the reporting currency by applying to the foreign currency amount the exchange rate between the reporting currency and the foreign currency at the date of the transaction, except as stated in para 4 above in respect of inter-related transactions.”
“7. At each balance sheet date:
(a) monetary items denominated in a foreign currency (e.g., foreign currency notes, balances in bank account denominated in a foreign currency, and receivables, payables and loans denominated in a foreign currency) should be reported using the closing rate. However, in circumstances where the closing rate does not reflect with reasonable accuracy the amount in reporting currency that is likely to be realised from, or required to disburse, the foreign currency item at the balance sheet date, a rate that reflects approximately the likely realisation or disbursement as aforesaid should be used;
(b) non-monetary items (other than fixed assets) which are carried in terms of historical cost denominated in a foreign currency should be reported using the exchange rate at the date of the transaction; and
(c) non-monetary items (other than fixed assets) which are carried in terms of fair value or other similar valuation, e.g., net realisable value, denominated in a foreign currency should be reported using the exchange rates that existed when the values were determined.”
“9. Exchange differences arising on foreign currency transactions should be recognised as income or as expenses in the period in which they arise…”
4. On the basis of the above, the Committee is of the following opinion in respect of the issues raised by the querist in para 5 of the query:
(i) The year-end foreign currency balances of monetary items, e.g., cash and bank balances, cargo claims, liner freight collectable, etc., for which an exchange rate is available in India, the rates mentioned at paras 2 and 3 above should be used, as these rates would be more relevant to an Indian company. However, insofar as such foreign currency balances are concerned for which no exchange rate is quoted either by the RBI or any authorised dealer in India, the company may use the rates quoted in Financial Times, London, of 31st March of the relevant year, or in case such rates are not available for 31st March, or a date nearest thereto for which such rates are available.
(ii) All transactions on revenue account should be accounted for as stated in paras 2 and 3 above.
(iii) Where the foreign currency balances are not yet established as at the reporting date, the same may be carried forward at the originally booked amounts with appropriate disclosure. However, this should not be made a normal practice. It must be so arranged that accounts of all parties as at the reporting date are available.
*The Committee wishes to draw attention to the fact that the opinion is based on the recommendations made in Exposure Draft of Revised Accounting Standard (AS) 11, issued by the Accounting Standards Board of the Institute of Chartered Accountants of India, published in ‘The Chartered Accountant’, August, 1993. It is, thus, possible that this opinion may change upon issuance of revised Accounting Standard (AS) 11. __________________________ |