Certificate in International Financial Reporting Foreign Currency and Hyperinflationary Economies 1 — Questions and Answers
Question 1: Under IAS 21, how is 'functional currency' defined?
- The currency in which the entity's financial statements are presented to investors
- The currency of the primary economic environment in which an entity operates (Correct answer)
- The currency used for the entity's tax reporting purposes
- The currency with the lowest inflation rate among countries where the entity operates
Correct answer: The currency of the primary economic environment in which an entity operates
IAS 21 defines functional currency as the currency of the primary economic environment in which the entity operates, reflecting the environment that primarily influences its cash flows.
Question 2: Under IAS 21, how should monetary items denominated in a foreign currency be translated at the reporting date?
- At the historical exchange rate on the date of the original transaction
- At the closing (spot) rate at the reporting date (Correct answer)
- At the average exchange rate for the reporting period
- At the rate stipulated in the underlying contract
Correct answer: At the closing (spot) rate at the reporting date
IAS 21 requires monetary items to be retranslated at the closing rate at the end of the reporting period.
Question 3: Which of the following is a non-monetary item under IAS 21?
- Trade receivables denominated in a foreign currency
- Cash held in a foreign currency bank account
- Inventory measured at historical cost (Correct answer)
- Bonds payable denominated in a foreign currency
Correct answer: Inventory measured at historical cost
Inventory measured at cost is non-monetary because it does not represent a right to receive a fixed or determinable number of currency units.
Question 4: An entity with a USD functional currency holds a EUR-denominated trade receivable. Between the transaction date and year-end, the EUR strengthens against the USD. Where is the resulting exchange difference recognized?
- In other comprehensive income until the receivable is collected
- In profit or loss for the period (Correct answer)
- Deferred in equity until settlement
- Adjusted retrospectively against the original revenue figure
Correct answer: In profit or loss for the period
Under IAS 21, exchange differences on monetary items (such as trade receivables) are recognized in profit or loss in the period they arise.
Question 5: Under IAS 21, what exchange rate is used to translate a non-monetary item carried at historical cost?
- The closing rate at the reporting date
- The average rate for the current period
- The historical rate at the date of the transaction (Correct answer)
- The forward rate applicable to the expected settlement date
Correct answer: The historical rate at the date of the transaction
Non-monetary items measured at historical cost are translated using the exchange rate at the date of the original transaction and are not subsequently retranslated.
Question 6: When translating the financial statements of a foreign subsidiary for consolidation, IAS 21 requires income and expense items to be translated at:
- The closing rate at the reporting date
- The historical rate at the date of acquisition of the subsidiary
- Exchange rates at the dates of the transactions, with the average rate permitted as a practical approximation (Correct answer)
- The lowest rate recorded during the reporting period
Correct answer: Exchange rates at the dates of the transactions, with the average rate permitted as a practical approximation
IAS 21 requires income and expenses to be translated at exchange rates at the dates of transactions, but an average rate may be used when rates do not fluctuate significantly.
Question 7: Under IAS 21, exchange differences arising on translation of a foreign subsidiary's net assets should be:
- Recognized immediately in profit or loss each period
- Deferred indefinitely in equity with no subsequent recycling
- Recognized in other comprehensive income and accumulated in a separate translation reserve in equity (Correct answer)
- Treated as an adjustment to goodwill arising on acquisition
Correct answer: Recognized in other comprehensive income and accumulated in a separate translation reserve in equity
Translation differences on foreign operations are recognized in OCI and accumulated in equity in a foreign currency translation reserve.
Certificate in International Financial Reporting Foreign Currency and Hyperinflationary Economies 1
Under IAS 21, how is 'functional currency' defined?