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[Revised December 2001 (Supp. No. 19/01)]
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Part 1 - Introduction
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Background |
| 1. |
A company may engage in foreign currency operations in two main ways: |
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a. |
It may enter directly into business transactions which are denominated in foreign currencies. The results of these
transactions will need to be translated into the currency in which the company reports. |
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b. |
Foreign operations may be conducted through a foreign enterprise which maintains its accounting records in a currency
other than that of the investing company. In order to prepare consolidated financial statements it will be necessary
to translate the complete financial statements of the foreign enterprise into the currency used for reporting purposes
by the investing company. |
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Objectives of translation |
| 2. |
The translation of foreign currency transactions and financial statements should produce results which are generally
compatible with the effects of rate changes on a company's cash flows and its equity and should ensure that the
financial statements present a true and fair view of the results of management actions. Consolidated statements
should reflect the financial results and relationships as measured in the foreign currency financial statements
prior to translation. |
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Procedures |
| 3. |
In this Statement the procedures which should be adopted when accounting for foreign operations are considered
in two stages, namely: |
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a. |
the preparation of the financial statements of an individual company; and |
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b. |
the preparation of consolidated financial statements. |
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Part 2 - Definition of Terms
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| 4. |
Financial statements are balance sheets, profit and loss accounts (income statements),
statements of changes in financial positioncash
flow statements, statements of changes in equity andnotes and other
statements which collectively are intended to give a true and fair view of the financial position
and profit or loss. |
| 5. |
Company includes any enterprise which comes within the scope of statements of standard accounting practice. |
| 6. |
A foreign enterprise is a subsidiary, associated company or branch whose operations are based in a country
other than that of the investing company or whose assets and liabilities are denominated mainly in a foreign currency. |
| 7. |
A foreign currency asset is an equity investment or other long-term non-monetary asset, the holding or the
use or the subsequent disposal of which will generate receipts in a foreign currency. |
| 8. |
Translation is the process whereby financial data denominated in one currency are expressed in terms of
another currency. It includes both the expression of individual transactions in terms of another currency and the
expression of a complete set of financial statements prepared in one currency in terms of another currency. |
| 9. |
The temporal method of translation requires translation of all assets, liabilities, revenue and expenses
at the exchange rate ruling at the date on which the amount recorded in the financial statements was established.
At the balance sheet date monetary assets and liabilities are retranslated at the closing rate and any resulting
exchange difference is taken to the profit and loss account. |
| 10. |
An exchange rate is a rate at which two currencies may be exchanged for each other at a particular point
in time; different rates apply for spot and forward transactions. |
| 11. |
The closing rate is the exchange rate for spot transactions ruling at the balance sheet date and is the
mean of the buying and selling rates at the close of business on the day for which the rate is to be ascertained. |
| 12. |
A forward contract is an agreement to exchange different currencies at a specified future date and at a
specified rate. A non-speculative forward contract is one which is designated and effective as a hedge of a net
investment in a foreign entity, of a foreign currency asset, of a net monetary asset or liability or of a firm
commitment. All other forward contracts, or parts of forward contracts in excess of the amount hedged, are speculative. |
[End of Revised December 2001 (Supp. No. 19/01)]
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[(Reviewed July 1986)]
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| 13. |
The gain or loss on a non-speculative forward contract is the foreign currency amount of the contract multiplied
by the difference between the spot rate at the balance sheet date and the spot rate at the date of inception of
the contract or at an intervening balance sheet date. |
| 14. |
The discount or premium on a non-speculative forward contract is the foreign currency amount of the contract
multiplied by the difference between the contracted forward rate and the spot rate at the date of inception of
the contract. |
| 15. |
The gain or loss on a speculative forward contract is the foreign currency amount of the contract multiplied
by the difference between the forward rate for the balance of the contract at the balance sheet date and either
the contracted forward rate or the forward rate used at an intervening balance sheet date. |
| 16. |
The net investment which a company has in a foreign enterprise is its effective equity stake and comprises
its proportion of such foreign enterprise's net assets; in certain circumstances, intra-group loans and other deferred
balances may be regarded as part of the effective equity stake. |
| 17. |
Monetary items are money held and amounts to be received or paid in money. |
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Part 3 - Standard Accounting Practice
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| 18. |
When preparing the financial statements of an individual company the procedures set out in paragraphs 19 to 28
should be followed. When preparing consolidated financial statements the procedures set out in paragraphs 29 to
34 should be followed. |
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Individual companies |
| 19. |
Subject to the provisions of paragraphs 21 and 25 each asset, liability, revenue or cost arising from a transaction
denominated in a foreign currency should be translated into the reporting currency at the exchange rate in operation
on the date on which the transaction occurred. If the rates do not fluctuate significantly an average rate for
a period may be used as an approximation. Where the transaction is to be settled at a contracted rate that rate
should be used. |
| 20. |
Subject to the special provisions of paragraph 25, which relate to the treatment of foreign currency assets financed
by foreign currency borrowings or hedged by forward contracts, no subsequent translations should normally be made
once non-monetary assets have been translated and recorded. |
| 21. |
At each balance sheet date monetary assets and liabilities denominated in a foreign currency should be translated
using the closing rate or, where appropriate, the rates of exchange fixed under the terms of the relevant transactions. |
| 22. |
An exchange gain or loss will result during an accounting period if a business transaction is settled at an exchange
rate which differs from that used when the transaction was initially recorded or, where appropriate, that used
at the last balance sheet date. An exchange gain or loss will also arise on unsettled transactions if the rate
of exchange used at the balance sheet date differs from that used previously. Such exchange gains and losses should
be included in the profit or loss from ordinary activities unless they arise from events which themselves fall
to be treated as extra-ordinary items, in which case they should be included as part of such items. |
| 23. |
Where exchange gains arise on monetary items and there are, exceptionally, doubts as to the convertibility or marketability
of the currency in question, it is necessary to consider on the grounds of prudence whether the amount of the gain,
or the amount by which exchange gains exceed past exchange losses on the same items, to be recognised in the profit
and loss account should be restricted. |
| 24. |
Gains or losses on exchange arising from transactions between a holding company and its subsidiaries, or from transactions
between fellow subsidiaries, should normally be reported in the individual company's financial statements as part
of the profit or loss for the year in the same way as gains or losses arising from transactions with third parties. |
| 25. |
Where a company has used foreign currency borrowings or forward contracts to finance, or provide a hedge against,
its foreign currency assets and the conditions set out in this paragraph apply, the foreign currency assets should
be denominated in the appropriate foreign currencies and the carrying amounts translated at the end of each accounting
period at closing rates for inclusion in the company's financial statements. Any exchange differences arising should
be taken to reserves and the exchange gains or losses arising on the borrowings or the forward contracts should
then be offset, as a reserve movement, against those exchange differences. The conditions which must apply are
as follows: |
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a. |
in any accounting period exchange gains or losses arising on the borrowings or the forward contracts should be
offset only to the extent of exchange differences arising on the foreign currency assets; and |
[End of (Reviewed July 1986)]
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[Revised December 2001 (Supp. No. 19/01)]
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b. |
the foreign currency borrowings or the forward contracts are designated and effective as a hedge against the foreign
currency assets. |
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Where a forward contract is used as a hedge of a foreign currency asset, the discount or premium on the contract
should be either amortised in the profit and loss account over the period of the contract or taken to reserves
with the gain or loss. |
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Forward contracts |
| 26. |
Where a non-speculative forward contract is used as a hedge of a net monetary asset or liability the gain or loss
on the contract should be taken to the profit and loss account and the discount or premium may be either amortised
over the period of the contract or taken to the profit and loss account. |
| 27. |
Where a non-speculative forward contract is used as a hedge of a firm commitment no gain or loss need normally
be recognised during the commitment period. At the end of that period any gain or loss will be added to, or deducted
from, the amount of the relevant transaction. The discount or premium should be either amortised over the period
of the contract or deferred with the gain or loss. |
| 28. |
Where a forward contract is speculative the gain or loss should be credited or charged to the profit and loss account. |
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Consolidated financial statements |
| 29. |
When preparing group accounts for an investing company and its foreign enterprises the closing
rate/net investment method of translating the financial statements should normally be used.
Under this method the amounts in the balance sheet of a foreign enterprise should be translated into the investing
company's reporting currency using the closing rate of exchange. Exchange differences will arise if this rate differs
from that ruling at the previous balance sheet date or at the date of any subsequent capital injection (or reduction)
and these differences should be recorded as a movement on reserves. |
| 30. |
The profit and loss account of a foreign enterprise accounted for under the closing
rate/ net investment method should be translated either at
the closing rate or at an average rate for the period. Where an average rate is used the difference
between the profit and loss account translated at an average rate and at the closing rate should be recorded as
a movement on reserves. The average rate used should be calculated by the method considered most appropriate for
the circumstances of the foreign enterprise; the use of a weighting procedure will in most cases be desirable. |
| 31. |
In those circumstances where the trade of the foreign enterprise is more dependent on the economic circumstances
of the investing company's reporting currency than on its own reporting currency the temporal method should be
used. |
| 32. |
The method used for translating the financial statements of each foreign enterprise should be applied consistently
from period to period unless its financial and other operational relationships with the investing company change. |
| 33. |
Where foreign currency borrowings or forward contracts have been used to finance, or provide a hedge against, group
net investments in foreign enterprises, exchange gains or losses on the borrowings or forward contracts, which
would otherwise have been taken to the profit and loss account, should be offset as reserve movements against exchange
differences arising on the retranslation of the net investments, provided that: |
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a. |
the relationships between the investing company and the foreign enterprises concerned justify the use of the closing rate net investment method for
consolidation purposes; |
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b. |
in any accounting period the exchange gains and losses arising on the foreign currency borrowings or forward contracts
are offset only to the extent of the exchange differences arising on the net investments in foreign enterprises;
and |
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c. |
the foreign currency borrowings or forward contracts are designated and effective as a hedge against the net investments. |
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Where a forward contract is used as a hedge of a net investment, the discount or premium on the contract should
be either amortised in the profit and loss account over the period of the contract or taken to reserves with the
gain or loss. |
| 34. |
Although equity investments in foreign enterprises will normally be made by the purchase of shares, investments
may also be made by means of long-term loans and intra-group deferred trading balances. Where financing by such
means is intended to be, for all practical purposes, as permanent as equity, such loans and intra-group balances
should be treated as part of the investing company's net investment in the foreign enterprise. Hence exchange differences
arising on such loans and intra-group balances should be dealt with as adjustments to reserves. |
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Disclosure |
| 35. |
The method used in the translation of the financial statements of foreign enterprises and the treatment accorded
to exchange differences should be disclosed in the financial statements. |
| 36. |
The following information should also be disclosed in the financial statements of all companies other than licensed
banking, insurance and shipping companies which take advantage of the disclosure exemptions permitted under Part
III of the Tenth Schedule to the Companies Ordinance: |
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a. |
the net amount of exchange gains and losses on foreign currency borrowings less deposits, identifying separately: |
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the amount offset in reserves under the provisions of paragraphs 25 and 33; and |
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ii. |
the net amount charged/credited to the profit and loss account; |
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b. |
the net amount of exchange gains or losses on forward contracts, together with any associated discount or premium
on these contracts, offset in reserves under the provisions of paragraphs 25 and 33; and |
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c. |
the net movement on reserves arising from exchange differences. |
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Transitional arrangements |
| 37. |
Where the provisions of this Statement are applied to the translation of foreign currency operations for the first
time it may represent a change in accounting policy which will normally need to be reflected as a prior year adjustment
to the opening balance of retained profits in accordance with Statement 2.102 (SSAP 2). Alternatively, where the
calculation of a prior year adjustment is impractical the changes in policy may be applied only to current and
future financial statements provided that the effect on the results of the current period is disclosed. |
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Date from which effective |
| 38. |
Except for paragraphs 29, 30 and 33, theThe
accounting and disclosure requirements set out in this statement should be adopted
as soon as possible. They should be regarded as standard in respect of financial statements
relating to accounting periods beginning on or after 1st January 1985. Paragraphs 29,
30 and 33 should be regarded as standard in respect of financial statements relating to accounting periods beginning
on or after 1 January 2002. |
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Part 4 - Legal Requirements in Hong Kong
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| 39. |
Paragraph 12(14) of the Tenth Schedule to the Companies Ordinance requires the following matter to be shown by
way of note to the balance sheet: "the basis on which other currencies have been converted into the currency
in which the balance sheet is expressed, where the amount of the assets or liabilities affected is material". |
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Part 5 - Compliance with International Accounting Standards
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| 40. |
The requirements of International Accounting Standard No. 21 "Accounting for the effects of changes in foreign
exchange rates" accord very closely with the content of this Statement. Accordingly compliance with this Statement
will ensure compliance with IAS 21 in all material respects. |
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Part 6 - Explanatory Note
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| This explanatory note is for general guidance only and does not form part of the statement of standard accounting
practice. |
| 41. |
The method used to translate financial statements for consolidation purposes should reflect the financial and other
operational relationships which exist between an investing company and its foreign enterprises. |
| 42. |
In most circumstances the closing rate/net investment method
should be used. This method recognises that the investment of a company is in the net worth of its foreign enterprise
rather than a direct investment in the individual assets and liabilities of that enterprise. The foreign enterprise
will normally have net current assets and fixed assets which may be financed partly by borrowings in its own reporting
currency. In its day-to-day operations the foreign enterprise is not normally dependent on the reporting currency
of the investing company. The investing company may look forward to a stream of dividends but the net investment
will remain until the business is liquidated or the investment disposed of. |
| 43. |
Exceptionally, however, there are cases in which the affairs of a foreign enterprise are so closely interlinked
with those of the investing company that its results may be regarded as being more dependent on the economic environment
of the investing company's currency than on that of its own reporting currency. In such a case the financial statements
of the foreign enterprise should be included in the consolidated financial statements as if all its transactions
had been entered into by the investing company itself in its own currency. For this purpose the temporal method
of translation should be used. |
| 44. |
It is not possible to select one factor which of itself will lead a company to conclude that the temporal method
should be adopted. All the available evidence should be considered in determining whether the currency of the investing
company is the dominant currency in the economic environment in which the foreign enterprise operates. Amongst
the factors to be taken into account will be: |
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the extent to which the cash flows of the enterprise have a direct impact upon those of the investing company; |
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b. |
the extent to which the functioning of the enterprise is dependent directly upon the investing company; |
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the currency in which the majority of the trading transactions are denominated; |
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the major currency to which the operation is exposed in its financing structure. |
| 45. |
Examples of situations where the temporal method may be appropriate are where the foreign enterprise: |
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a. |
acts as a selling agency receiving stocks of goods from the investing company and remitting the proceeds back to
that company; |
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b. |
produces a raw material or manufactures parts or sub-assemblies which are then shipped to the investing company
for inclusion in its own products; |
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is located overseas for tax or legal reasons to act as a means of raising finance for other companies in the group. |
| 46. |
For the purposes of this Statement foreign operations which are conducted through a foreign branch should be accounted
for in accordance with the nature of the business operations concerned. Where such a branch operates as a separate
business with local finance it will be accounted for using the closing rate/net
investment method. Where the foreign branch operates as an extension of the company's trade and its cash flows
have a direct impact upon those of the company the temporal method will be appropriate. |
[End of Revised December 2001 (Supp. No. 19/01)]
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