Query No. 5
Subject: Disclosure of work-in-progress in a foreign country when there has been a severe devaluation of the foreign currency.[1] A. Facts of the Case
1. A public sector company undertakes projects in various fields of telecommunication. It undertook a project worth US$ 40 million in Indonesia in the year 1993. The project as originally undertaken was completed in the year 1997-98. However, due to some additional work, the completion of the project was likely to take a further period of one year.
2. As per the querist, Indonesian operations are considered as branch operations and are audited by branch auditors locally. The accounts of Indonesian operations are prepared in Indonesian currency and subsequently translated into Indian rupees.
3. The company follows the percentage of completion method in accordance with Accounting Standard (AS) 7, ‘Accounting for Construction Contracts’.
4. The company translates the closing work-in-progress at closing rate and the opening work-in-progress at opening rate.
5. During the year 1997-98, there were volatile fluctuations in the value of the Indonesian currency. During this period, the exchange rate for IDR (Indonesian Rupiah) plummeted from US$ 1 = IDR 2399.94 to US$ 1 = IDR 8317.61. Accordingly, the Indian rupee/IDR parity went down from IDR 1 = Indian Re. 0.015 to IDR 1 = Indian Re. 0.005.
6. The company takes the turnover as the difference between the closing work-in-progress and the opening work-in-progress. Due to substantial devaluation of IDR, a negative turnover in terms of Indian rupees resulted for the year 1997-98 as under:
(Rs. in crore)
Closing WIP at the closing rate 99.98
Opening WIP at the opening rate 121.20
Turnover
for the year
(–)
21.22
7. According to the querist, to show the correct position in the accounts for the year 1997-98, the company worked out the effect of exchange fluctuations during the year (i.e., the difference of exchange rates as on 31.03.1997 and 31.03.1998) on the opening work-in-progress and disclosed it as a reduction from the amount of the opening work-in-progress as under:
(Rs. in crore)
Closing WIP at closing rate 99.98
Less: Opening WIP 121.20
extraordinary item
56.56 64.64
Turnover
for the year
35.34
The amount of Rs. 56.56 crores was shown as an extraordinary item as ‘currency translation losses’. Similarly, progress payments received till 31.03.1998 were also translated at the closing rate and the effect of exchange fluctuations during the year on progress payments received till 31.03.1997 was treated as an extraordinary item. A note to the accounts was given as under to disclose the facts of the case:
8. The statutory auditors of the company accepted the position as above. The government auditors, however, advised the company to seek the views of Expert Advisory Committee in the matter.
B. Queries
9. The querist has sought the opinion of the Expert Advisory Committee on the following issues:
C. Points Considered by the Committee
10. The Committee notes that Accounting Standard (AS) 1, ‘Disclosure of Accounting Policies’, states as under (paragraph 17):
11. The Committee further notes that paragraph 12 of Accounting Standard (AS) 5, ‘Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies’, requires the following:
12. The Committee also notes that paragraph 19 of Accounting Standard (AS) 11, ‘Accounting for the Effects of Changes in Foreign Exchange Rates’, lays down the following with regard to the translation of the financial statements of foreign branches:
13. The Committee notes that during the year 1997-98, there was a substantial devaluation of Indonesian rupiah, bringing down significantly the value, in terms of Indian rupees, of the opening work-in-progress of the company in Indonesia. The Committee is of the view that in terms of paragraph 12 of AS 5, disclosure of the effect of devaluation of Indonesian rupiah on the opening work-in-progress is necessary to explain the performance of the company for the year. The need for such a disclosure also arises from the requirement of AS 1 that the financial statements should disclose all ‘material items’.
14. The Committee further notes that the value of the opening work-in-progress in terms of Indian rupees has been worked out using the rate prevalent at the commencement of the accounting period which is in accordance with the requirements of AS 11.
15. The Committee is of the view that the manner of disclosure adopted by the company about the effect of devaluation of Indonesian rupiah on the opening work-in-progress brings out the facts in sufficient detail. The Committee, however, notes that the above effect of exchange fluctuations has been shown as an extraordinary item. The Committee is of the view that this is not in accordance with AS 5 which warrants the disclosure of this item as a part of profit or loss from ordinary activities for the period rather than as an extraordinary item.
16. The Committee notes that Accounting Standard (AS) 7, Accounting for Construction Contracts, recognises the ‘percentage of completion method’ as a permissible method of accounting for construction contracts. According to paragraph 7.2 of the Standard, “under the percentage of completion method, revenue is recognised as the contract activity progresses based on the stage of completion reached”. Further, paragraph 9.2 of the Standard states the following:
17. Based on the above, the Committee is of the view that recognition of revenue from construction contracts by the company on the basis of the percentage of completion method is in accordance with AS 7. However, the manner of determining the stage of completion of contracts that can be considered to be appropriate in a particular case depends upon the facts and circumstances of the case. The Committee presumes that the manner followed by the company in this regard is appropriate under its facts and circumstances.
18. Based on the above, the Committee is of the following opinion on the issues raised in paragraph 9:
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[1] Opinion
finalised by the Committee on 4.3.1999.
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