What Is AS 11?
Accounting Standard 11 (AS 11), titled "The Effects of Changes in Foreign Exchange Rates," was issued by the ICAI. It prescribes how to include foreign currency transactions and foreign operations in the financial statements of an enterprise and how to translate financial statements into a reporting currency. The principal issues are which exchange rate to use and how to report the effects of changes in exchange rates.
Scope
AS 11 applies to:
- Accounting for foreign currency transactions — purchases, sales, borrowings, and other transactions denominated in a foreign currency
- Translating the financial statements of foreign operations (branches, subsidiaries, associates, joint ventures) for incorporation in the enterprise's financial statements
Key Definitions
| Term | Definition |
|---|---|
| Foreign Currency | A currency other than the reporting currency of the enterprise |
| Exchange Rate | The ratio for exchange of two currencies |
| Closing Rate | The exchange rate at the balance sheet date |
| Forward Rate | The specified exchange rate in a forward exchange contract |
| Reporting Currency | The currency used in presenting the financial statements (INR for Indian enterprises) |
| Exchange Difference | The difference resulting from reporting the same number of units of a foreign currency at different exchange rates |
Initial Recognition
A foreign currency transaction should be recorded at the exchange rate prevailing on the date of the transaction. For practical purposes, a rate that approximates the actual rate (such as an average rate for a week or month) may be used for all transactions in a currency during that period. However, if exchange rates fluctuate significantly, the use of average rate is inappropriate.
Reporting at Balance Sheet Date
At each balance sheet date, foreign currency monetary and non-monetary items are reported as follows:
| Type of Item | Exchange Rate Used | Examples |
|---|---|---|
| Monetary Items | Closing rate (rate at balance sheet date) | Trade receivables, trade payables, foreign currency loans, bank balances in foreign currency |
| Non-Monetary Items at Historical Cost | Exchange rate at the date of transaction | Fixed assets, inventory purchased in foreign currency |
| Non-Monetary Items at Fair Value | Exchange rate when fair value was determined | Investments carried at fair value |
Recognition of Exchange Differences
Exchange differences arising on the settlement of monetary items or on reporting at rates different from those at which they were initially recorded or reported in previous financial statements should be recognised as income or expense in the period in which they arise.
Example: Company X has a trade payable of USD 10,000 recorded at Rs 83 per USD (Rs 8,30,000). At the balance sheet date, the rate is Rs 84 per USD. The payable is restated to Rs 8,40,000, and the exchange loss of Rs 10,000 is recognised in P&L.
Forward Exchange Contracts
Forward contracts are entered into to hedge foreign currency exposure. AS 11 distinguishes between:
Contracts to Hedge Existing Assets/Liabilities
The premium or discount on a forward contract (difference between forward rate and exchange rate on the date of the contract) is amortised as expense or income over the life of the contract. Exchange differences on the contract are recognised in the P&L.
Contracts to Hedge Firm Commitments or Highly Probable Forecast Transactions
The premium or discount is amortised over the life of the contract. Any profit or loss on the contract is recognised in the P&L when the hedged transaction affects the P&L.
Integral vs Non-Integral Foreign Operations
Integral Foreign Operations
An integral foreign operation is one whose activities are a direct extension of the reporting enterprise — like a branch that sells goods imported from the head office. Financial statements are translated as if the transactions had been those of the reporting enterprise itself:
- Monetary items — closing rate
- Non-monetary items — transaction date rate
- Income and expenses — transaction date rate (or average rate as approximation)
- Exchange differences — recognised in P&L
Non-Integral Foreign Operations
A non-integral foreign operation is one that is financially and operationally independent — like a foreign subsidiary with its own local business. Translation is done using the closing rate method:
- All assets and liabilities — closing rate
- Income and expenses — transaction date rate (or average rate)
- Exchange differences — accumulated in a Foreign Currency Translation Reserve until disposal of the net investment
Disclosure Requirements
The enterprise should disclose:
- The amount of exchange differences included in net profit or loss for the period
- Net exchange differences accumulated in foreign currency translation reserve (for non-integral operations)
- The amount of exchange differences arising during the period capitalised to fixed assets (if applicable under specific government notification)
Conclusion
AS 11 is essential for any enterprise engaged in foreign currency transactions or having foreign operations. It ensures that the effects of exchange rate changes are properly captured in financial statements — whether through P&L recognition or through reserves. Understanding the distinction between monetary and non-monetary items, and between integral and non-integral operations, is key to correct application of this standard.
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