Consolidating foreign currency subsidiaries
This is achieved as follows: *The closing rate is defined as the spot rate of exchange as at the end of the reporting period.
Paragraph 30.19 does recognise that for practical reasons, an entity may use average rates of exchange, particularly to translate income and expense items.
In a group situation, it is not uncommon for a foreign subsidiary to be a member of a group and paragraph 30.5 outlines various additional factors that are to be considered in determining the functional currency of a foreign operation which will then lead to the conclusion as to whether the functional currency is the same as that of the parent: A company may enter into a foreign exchange transaction with an overseas supplier whereby the transaction will be denominated in a foreign currency and will be settled in a foreign currency.
Examples include: On initial recognition, the transaction is accounted for using the rate of exchange prevailing on the date of the transaction.
Care must be taken where average rates of exchange are employed because the paragraph does also recognise that where exchange rates have fluctuated significantly, the use of an average rate of exchange for a period will be inappropriate.
If a group acquires a foreign subsidiary, any goodwill which arises on the acquisition of the subsidiary is treated as an asset of the foreign operation.
If, say, 80% of a group’s profit is generated by European subsidiaries whose functional currency is the Euro, (despite the fact that the group has other functional currencies such as US Dollars and Canadian Dollars), it may adopt the Euro as its presentation currency for the purpose of consolidated financial statements.
In situations where an entity’s presentation currency differs from the entity’s functional currency, the entity must translate its items of income and expense and financial position into the presentation currency.
A change in functional currency can only take place if there is a change to the underlying transactions, events and conditions which are pertinent to the entity.
This could arise, for example, where there is a change of currency (for example if the UK decided to adopt the Euro).
The cost of the chemicals is €180,000 and the spot rate on the date of the transaction is £1 = €1.45.