IAS 21- The Effects of Changes in Foreign Exchange Rates

Question 1

how the functional currency of Crotchet Co should be determined

6.Hummings

Answer 1

• Functional Currency Determination:
  
  • Functional currency: currency of primary economic environment.
  • Consideration for Crotchet Co to adopt same as parent, Hummings Co.
  • Crotchet Co appears largely independent, not reliant on Hummings Co.
  • No transactions in dollars or dollar bank account.
  • Conclusion: Dollar not functional currency for Crotchet Co.
• Determining Functional Currency:
  
  • Currency influencing sales price of goods, labor, and other costs.
  • Consider currency invoiced in for sales, settled costs.
  • Majority of Crotchet Co transactions in grommits.
  • Sales, purchases, staff payments in grommits.
  • Funds raised in grommits for finance.
  • Conclusion: Grommits chosen as functional currency for Crotchet Co.
• Customer Contracts:
  
  • Identifiable net assets at acquisition recognized at fair value per IFRS 3.
  • Customer contract identifiable if capable of separate use or sale, or arises from legal/contractual rights.
  • Reliable estimate of fair value necessary.
  • Contracts provide legal right preventing customers from competitors.
  • Fair value estimate obtainable.
  • Recognize contracts as separate intangible asset.
  • Initial recognition: Contracts valued at 15 million grommits, translated at spot rate of $1 to 8 grommits, recognized at $1.875 million.
• Subsequent Accounting Treatment (Year Ended 31 December 20X4):
  
  • Determine average unexpired useful life of contracts for amortization.
  • Amortize over this period.
  • Amortization expense translated at average exchange rate, recorded in consolidated profit or loss.
  • Carrying amount retranslated at closing exchange rate, with exchange gain recognized in other comprehensive income.

Question 2

21 AGENCY GROUP

Answer 2

• IAS 21 Requirements:
  
  • Gains and losses reclassified from equity to SPL as reclassification adjustment.
  • Group exchange difference arises on re-translation of foreign subsidiary’s goodwill and net assets.
  • Exchange differences recognized in OCI, accumulate in other components of equity (OCE).
  • Upon subsidiary disposal, net cumulative balance of group exchange differences reclassified from equity to SPL as reclassification adjustment.
• Misapplication by Mr. Raavi:
  
  • Exchange gains from re-translation of foreign subsidiary included in SPL.
  • Foreign subsidiary currently held for sale, gains should not be in SPL.
  • Gains accumulated in OCE, to be reclassified to profit or loss upon subsidiary sale.

Question 3

31.Rubul

Answer 3

• Rubul Co’s Sales Tax and Income Tax Liabilities:
  
  • Sales Tax: Rubul Co has a liability for uncollected sales tax in the overseas country due to a misunderstanding of tax laws. Despite low risk of detection, the obligation exists, and Rubul Co should recognize the liability based on the full amount owed, including interest and penalties.
  • Income Tax: Legal proceedings for unpaid income tax have begun, although Rubul Co disputes owing it. However, as there’s a present obligation and a dispute exists, it should be recognized as a contingent liability.
• Use of Historic Exchange Rate:
  
  • Application with FRS 102: Using a single historic fixed exchange rate for translating international subsidiaries is not in accordance with FRS 102. FRS 102 requires translation at closing rates for balance sheet items and at transaction dates for income and expenses.
  • Advantages for Users:
    
    • Eliminates exchange rate fluctuations in determining financial performance.
    • Provides clearer insights into underlying operational performance.
  • Enhancing Usefulness:
    
    • Recognizing foreign exchange gains or losses on overseas deposits in OCI instead of profit or loss could enhance usefulness.
    • Helps distinguish between realized and unrealized gains/losses, providing a clearer picture of financial performance.