108

Accounting Standard (AS) 11

The Effects of Changes in
Foreign Exchange Rates
Contents
OBJECTIVE
SCOPE
DEFINITIONSParagraphs 1-6
7

FOREIGN CURRENCY TRANSACTIONS

8-16

Initial Recognition

8-10

Reporting at Subsequent Balance Sheet Dates

11-12

Recognition of Exchange Differences

13-16

Net Investment in a Non-integral Foreign
Operation

15-16

FINANCIAL STATEMENTS OF FOREIGNOPERATIONS

17-34

Classification of Foreign Operations

17-20

Integral Foreign Operations

21-23

Non-integral Foreign Operations

24-32

Disposal of a Non-integral Foreign Operation

31-32

Change in the Classification of a Foreign
Operation

33-34

Continued../. .

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ALL CHANGES IN FOREIGN EXCHANGE
RATES

35

Tax Effects of Exchange Differences

35

FORWARD EXCHANGE CONTRACTS

36-39

DISCLOSURE

40-44

TRANSITIONAL PROVISIONS

45

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AS 11

Accounting Standard (AS) 11*
The Effects of Changes in
Foreign Exchange Rates(This Accounting Standard includes paragraphs set in bold italic type
and plain type, which have equal authority. Paragraphs in bold italic typeindicate the main principles. This Accounting Standard should be read in
the context of its objective and the General Instructions contained in part
A of the Annexure to the Notification.)Objective
An enterprise may carry on activities involving foreign exchange in two
ways. It may have transactions in foreign currencies or it may have foreign
operations. In order to include foreign currency transactions and foreign
operations in the financial statements of an enterprise, transactions must
be expressed in the enterprise’s reporting currency and the financial
statements of foreign operations must be translated into the enterprise’sreporting currency.
The principal issues in accounting for foreign currency transactions andforeign operations are to decide which exchange rate to use and how torecognise in the financial statements the financial effect of changes inexchange rates.

Scope
1.

This Standard should be applied:(a) in accounting for transactions in foreign currencies; and(b) in translating the financial statements of foreign operations.

* In respect of accounting for transactions in foreign currencies entered into by thereporting enterprise itself or through its branches before the effective date of thenotification prescribing this Standard under Section 211 of the Companies Act, 1956,
the applicability of this Standard would be determined on the basis of the AccountingStandard (AS) 11 revised by the ICAI in 2003.

The Effects of Changes in Foreign Exchange Rates 111

2. This Standard also deals with accounting for foreign currencytransactions in the nature of forward exchange contracts.1
3. This Standard does not specify the currency in which an enterprisepresents its financial statements. However, an enterprise normally uses thecurrency of the country in which it is domiciled. If it uses a different
currency, this Standard requires disclosure of the reason for using thatcurrency. This Standard also requires disclosure of the reason for any
change in the reporting currency.
4. This Standard does not deal with the restatement of an enterprise’s
financial statements from its reporting currency into another currency forthe convenience of users accustomed to that currency or for similar
purposes.
5. This Standard does not deal with the presentation in a cash flow
statement of cash flows arising from transactions in a foreign currency andthe translation of cash flows of a foreign operation (see AS 3, Cash Flow
Statements).
6. This Standard does not deal with exchange differences arising fromforeign currency borrowings to the extent that they are regarded as an
adjustment to interest costs (see paragraph 4(e) of AS 16, Borrowing Costs).

Definitions
7. The following terms are used in this Standard with the meanings
specified:
7.1 Average rate is the mean of the exchange rates in force during aperiod.

This Standard is applicable to exchange differences on all forward exchange contracts
including those entered into to hedge the foreign currency risk of existing assets andliabilities and is not applicable to the exchange difference arising on forward exchange
contracts entered into to hedge the foreign currency risks of future transctions in respectof which firm commitments are made or which are highly probable forecast transactions. A‘firm commitment’ is a binding agreement for the exchange of a specified quantity of resources at a specified price on a specified future date or dates and a ‘forecast
transaction’ is an uncommitted but anticipated future transaction.
1

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7.2 Closing rate is the exchange rate at the balance sheet date.
7.3 Exchange difference is the difference resulting from reporting thesame number of units of a foreign currency in the reporting
currency at different exchange rates.
7.4 Exchange rate is the ratio for exchange of two currencies.
7.5 Fair value is the amount for which an asset could be exchanged,
or a liability settled, between knowledgeable, willing parties in anarm’s length transaction.
7.6 Foreign currency is a currency other than the reporting currencyof an enterprise.
7.7 Foreign operation is a subsidiary2 , associate3 , joint venture4 or
branch of the reporting enterprise, the activities of which are basedor conducted in a country other than the country of the reporting
enterprise.
7.8 Forward exchange contract means an agreement to exchange
different currencies at a forward rate.
7.9 Forward rate is the specified exchange rate for exchange of twocurrencies at a specified future date.
7.10 Integral foreign operation is a foreign operation, the activities ofwhich are an integral part of those of the reporting enterprise.
7.11 Monetary items are money held and assets and liabilities to bereceived or paid in fixed or determinable amounts of money.
7.12 Net investment in a non-integral foreign operation is the reporting
enterprise’s share in the net assets of that operation.
7.13 Non-integral foreign operation is a foreign operation that is not
an integral foreign operation.
As defined in AS 21, Consolidated Financial Statements.
As defined in AS 23, Accounting for Investments in Associates in Consolidated
Financial Statements.
4
As defined in AS 27, Financial Reporting of Interests in Joint Ventures.
2
3

The Effects of Changes in Foreign Exchange Rates 113

7.14 Non-monetary items are assets and liabilities other than monetary
items.
7.15 Reporting currency is the currency used in presenting the financial
statements.

Foreign Currency Transactions
Initial Recognition
8. A foreign currency transaction is a transaction which is denominatedin or requires settlement in a foreign currency, including transactions arisingwhen an enterprise either:(a) buys or sells goods or services whose price is denominated in aforeign currency;(b) borrows or lends funds when the amounts payable or receivable
are denominated in a foreign currency;(c) becomes a party to an unperformed forward exchange contract;or(d) otherwise acquires or disposes of assets, or incurs or settles
liabilities, denominated in a foreign currency.
9. A foreign currency transaction should be recorded, on initialrecognition in the reporting currency, by applying to the foreign currency
amount the exchange rate between the reporting currency and the foreign
currency at the date of the transaction.
10. For practical reasons, a rate that approximates the actual rate at thedate of the transaction is often used, for example, an average rate for aweek or a month might be used for all transactions in each foreign currency
occurring during that period. However, if exchange rates fluctuatesignificantly, the use of the average rate for a period is unreliable.

Reporting at Subsequent Balance Sheet Dates
11. At each balance sheet date:

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(a) foreign currency monetary items should be reported using
the closing rate. However, in certain circumstances, the closing
rate may not reflect with reasonable accuracy the amount inreporting currency that is likely to be realised from, or required
to disburse, a foreign currency monetary item at the balance
sheet date, e.g., where there are restrictions on remittances orwhere the closing rate is unrealistic and it is not possible toeffect an exchange of currencies at that rate at the balance
sheet date. In such circumstances, the relevant monetary item
should be reported in the reporting currency at the amountwhich is likely to be realised from, or required to disburse,such item at the balance sheet date;(b) non-monetary items which are carried in terms of historicalcost denominated in a foreign currency should be reported
using the exchange rate at the date of the transaction; and(c) non-monetary items which are carried at fair value or othersimilar valuation denominated in a foreign currency should
be reported using the exchange rates that existed when thevalues were determined.
12. Cash, receivables, and payables are examples of monetary items.
Fixed assets, inventories, and investments in equity shares are examplesof non-monetary items. The carrying amount of an item is determined inaccordance with the relevant Accounting Standards. For example, certain
assets may be measured at fair value or other similar valuation (e.g., net
realisable value) or at historical cost. Whether the carrying amount isdetermined based on fair value or other similar valuation or at historicalcost, the amounts so determined for foreign currency items are then reported
in the reporting currency in accordance with this Standard. The contingent
liability denominated in foreign currency at the balance sheet date isdisclosed by using the closing rate.

Recognition of Exchange Differences5
13. Exchange differences arising on the settlement of monetary items
It may be noted that the accounting treatment of exchange differences contained in thisStandard is required to be followed irrespective of the relevant provisions of Schedule
VI to the Companies Act, 1956.

5

The Effects of Changes in Foreign Exchange Rates 115

or on reporting an enterprise’s monetary items at rates different fromthose at which they were initially recorded during the period, or reported
in previous financial statements, should be recognised as income or as
expenses in the period in which they arise, with the exception of exchange
differences dealt with in accordance with paragraph 15.
14. An exchange difference results when there is a change in the exchange
rate between the transaction date and the date of settlement of any monetary
items arising from a foreign currency transaction. When the transaction issettled within the same accounting period as that in which it occurred, all
the exchange difference is recognised in that period. However, when thetransaction is settled in a subsequent accounting period, the exchange
difference recognised in each intervening period up to the period ofsettlement is determined by the change in exchange rates during that period.

Net Investment in a Non-integral Foreign Operation
15. Exchange differences arising on a monetary item that, in substance,
forms part of an enterprise’s net investment in a non-integral foreign
operation should be accumulated in a foreign currency translation
reserve in the enterprise’s financial statements until the disposal of the
net investment, at which time they should be recognised as income or as
expenses in accordance with paragraph 31.
16. An enterprise may have a monetary item that is receivable from, orpayable to, a non-integral foreign operation. An item for which settlement
is neither planned nor likely to occur in the foreseeable future is, insubstance, an extension to, or deduction from, the enterprise’s net
investment in that non-integral foreign operation. Such monetary items
may include long-term receivables or loans but do not include tradereceivables or trade payables.

Financial Statements of Foreign Operations
Classification of Foreign Operations
17. The method used to translate the financial statements of a foreign
operation depends on the way in which it is financed and operates inrelation to the reporting enterprise. For this purpose, foreign operations
are classified as either “integral foreign operations” or “non-integral foreign

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operations”.
18. A foreign operation that is integral to the operations of the reporting
enterprise carries on its business as if it were an extension of the reporting
enterprise’s operations. For example, such a foreign operation might only
sell goods imported from the reporting enterprise and remit the proceeds
to the reporting enterprise. In such cases, a change in the exchange rate
between the reporting currency and the currency in the country of foreign
operation has an almost immediate effect on the reporting enterprise’s
cash flow from operations. Therefore, the change in the exchange rateaffects the individual monetary items held by the foreign operation rather
than the reporting enterprise’s net investment in that operation.
19. In contrast, a non-integral foreign operation accumulates cash andother monetary items, incurs expenses, generates income and perhaps
arranges borrowings, all substantially in its local currency. It may also
enter into transactions in foreign currencies, including transactions in thereporting currency. When there is a change in the exchange rate between
the reporting currency and the local currency, there is little or no direct
effect on the present and future cash flows from operations of either the
non-integral foreign operation or the reporting enterprise. The change inthe exchange rate affects the reporting enterprise’s net investment in the
non-integral foreign operation rather than the individual monetary andnon-monetary items held by the non-integral foreign operation.
20. The following are indications that a foreign operation is a nonintegral foreign operation rather than an integral foreign operation:(a)while the reporting enterprise may control the foreign operation,
the activities of the foreign operation are carried out with asignificant degree of autonomy from those of the reporting
enterprise;(b) transactions with the reporting enterprise are not a highproportion of the foreign operation’s activities;(c) the activities of the foreign operation are financed mainly fromits own operations or local borrowings rather than from thereporting enterprise;(d) costs of labour, material and other components of the foreign

The Effects of Changes in Foreign Exchange Rates 117

operation’s products or services are primarily paid or settled in
the local currency rather than in the reporting currency;(e) the foreign operation’s sales are mainly in currencies otherthan the reporting currency;(f)cash flows of the reporting enterprise are insulated from the
day-to-day activities of the foreign operation rather than being
directly affected by the activities of the foreign operation;(g) sales prices for the foreign operation’s products are not primarily
responsive on a short-term basis to changes in exchange rates
but are determined more by local competition or local
government regulation; and(h) there is an active local sales market for the foreign operation’s
products, although there also might be significant amounts ofexports.
The appropriate classification for each operation can, in principle, beestablished from factual information related to the indicators listed above.
In some cases, the classification of a foreign operation as either a nonintegral foreign operation or an integral foreign operation of the reporting
enterprise may not be clear, and judgement is necessary to determine theappropriate classification.

Integral Foreign Operations
21. The financial statements of an integral foreign operation shouldbe translated using the principles and procedures in paragraphs 8 to 16
as if the transactions of the foreign operation had been those of thereporting enterprise itself.
22. The individual items in the financial statements of the foreign
operation are translated as if all its transactions had been entered into by
the reporting enterprise itself. The cost and depreciation of tangible fixed
assets is translated using the exchange rate at the date of purchase of theasset or, if the asset is carried at fair value or other similar valuation,using the rate that existed on the date of the valuation. The cost of
inventories is translated at the exchange rates that existed when thosecosts were incurred. The recoverable amount or realisable value of an

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asset is translated using the exchange rate that existed when the recoverable
amount or net realisable value was determined. For example, when the net
realisable value of an item of inventory is determined in a foreign currency,that value is translated using the exchange rate at the date as at which the
net realisable value is determined. The rate used is therefore usually theclosing rate. An adjustment may be required to reduce the carrying amountof an asset in the financial statements of the reporting enterprise to its
recoverable amount or net realisable value even when no such adjustment
is necessary in the financial statements of the foreign operation.
Alternatively, an adjustment in the financial statements of the foreign
operation may need to be reversed in the financial statements of thereporting enterprise.
23. For practical reasons, a rate that approximates the actual rate at thedate of the transaction is often used, for example, an average rate for aweek or a month might be used for all transactions in each foreign currency
occurring during that period. However, if exchange rates fluctuatesignificantly, the use of the average rate for a period is unreliable.

Non-integral Foreign Operations
24. In translating the financial statements of a non-integral foreign
operation for incorporation in its financial statements, thereporting enterprise should use the following procedures:(a) the assets and liabilities, both monetary and non-monetary,of the non-integral foreign operation should be translated at
the closing rate;(b) income and expense items of the non-integral foreign
operation should be translated at exchange rates at the datesof the transactions; and(c) all resulting exchange differences should be accumulated ina foreign currency translation reserve until the disposal of
the net investment.
25. For practical reasons, a rate that approximates the actual exchange
rates, for example an average rate for the period, is often used to translate
income and expense items of a foreign operation.

The Effects of Changes in Foreign Exchange Rates 119

26. The translation of the financial statements of a non-integral foreign
operation results in the recognition of exchange differences arising from:(a) translating income and expense items at the exchange rates atthe dates of transactions and assets and liabilities at the closing
rate;(b) translating the opening net investment in the non-integral foreign
operation at an exchange rate different from that at which it
was previously reported; and(c) other changes to equity in the non-integral foreign operation.
These exchange differences are not recognised as income or expenses forthe period because the changes in the exchange rates have little or no
direct effect on the present and future cash flows from operations of either
the non-integral foreign operation or the reporting enterprise. When a nonintegral foreign operation is consolidated but is not wholly owned,
accumulated exchange differences arising from translation and attributable
to minority interests are allocated to, and reported as part of, the minority
interest in the consolidated balance sheet.
27. Any goodwill or capital reserve arising on the acquisition of a nonintegral foreign operation is translated at the closing rate in accordancewith paragraph 24.
28. A contingent liability disclosed in the financial statements of a nonintegral foreign operation is translated at the closing rate for its disclosurein the financial statements of the reporting enterprise.
29. The incorporation of the financial statements of a non-integral foreign
operation in those of the reporting enterprise follows normal
consolidation procedures, such as the elimination of intra-groupbalances and intra- group transactions of a subsidiary (see AS 21,
Consolidated Financial Statements, and AS 27, Financial Reporting ofInterests in Joint Ventures). However, an exchange difference arising on
an intra-group monetary item,
whether short-term or long-term, cannot be eliminated against acorresponding amount arising on other intra-group balances because themonetary item represents a commitment to convert one currency intoanother and exposes the reporting enterprise to a gain or loss through

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of the reporting enterprise, such an exchange difference continues to berecognised as income or an expense or, if it arises from the circumstances
described in paragraph 15, it is accumulated in a foreign currencytranslation reserve until the disposal of the net investment.
30. When the financial statements of a non-integral foreign operation
are drawn up to a different reporting date from that of the reporting
enterprise, the non-integral foreign operation often prepares, for purposesof incorporation in the financial statements of the reporting enterprise,statements as at the same date as the reporting enterprise. When it isimpracticable to do this, AS 21, Consolidated Financial Statements, allows
the use of financial statements drawn up to a different reporting dateprovided that the difference is no greater than six months andadjustments are made for the effects of any significant transactions orother events that occur between the different reporting dates. In such acase, the assets and liabilities of the non-integral foreign operation aretranslated at the exchange rate at the balance sheet date of the nonintegral foreign operation and adjustments are made when appropriate
for significant movements in exchange rates up to the balance sheet
date of the reporting enterprises in accordance with AS 21. The same
approach is used in applying the equity method to associates and inapplying proportionate consolidation to joint ventures in accordancewith AS 23, Accounting for Investments in Associates inConsolidated Financial Statements and AS 27, Financial Reporting of

Disposal of a Non-integral Foreign Operation
31. On the disposal of a non-integral foreign operation, thecumulative amount of the exchange differences which have beendeferred and which relate to that operation should be recognised asincome or as expenses
32. An enterprise may dispose of its interest in a non-integral foreign
operation through sale, liquidation, repayment of share capital, orabandonment of all, or part of, that operation. The payment of a dividend
forms part of a disposal only when it constitutes a return of the investment.
In the case of a partial disposal, only the proportionate share of the related
accumulated exchange differences is included in the gain or loss. A writedown of the carrying amount of a non-integral foreign operation does notconstitute a partial disposal. Accordingly, no part of the deferred foreignexchange gain or loss is recognised at the time of a write-down.

The Effects of Changes in Foreign Exchange Rates 121

Change in the Classification of a Foreign Operation
33. When there is a change in the classification of a foreign operation,
the translation procedures applicable to the revised classification should
be applied from the date of the change in the classification.
34. The consistency principle requires that foreign operation onceclassified as integral or non-integral is continued to be so classified.
However, a change in the way in which a foreign operation is financed
and operates in relation to the reporting enterprise may lead to a change inthe classification of that foreign operation. When a foreign operation thatis integral to the operations of the reporting enterprise is reclassified as a
non-integral foreign operation, exchange differences arising on thetranslation of non-monetary assets at the date of the reclassification are
accumulated in a foreign currency translation reserve. When a non-integral
foreign operation is reclassified as an integral foreign operation, thetranslated amounts for non-monetary items at the date of the change aretreated as the historical cost for those items in the period of change andsubsequent periods. Exchange differences which have been deferred are
not recognised as income or expenses until the disposal of the operation.

All Changes in Foreign Exchange Rates
Tax Effects of Exchange Differences
35. Gains and losses on foreign currency transactions and exchange
differences arising on the translation of the financial statements of foreign
operations may have associated tax effects which are accounted for inaccordance with AS 22, Accounting for Taxes on Income.

Forward Exchange Contracts6
36. An enterprise may enter into a forward exchange contract oranother financial instrument that is in substance a forward exchange
contract, which is not intended for trading or speculation purposes, toestablish the amount of the reporting currency required or available atthe settlement date of a transaction. The premium or discount arising at
the inception of such a forward exchange contract should be amortised
6

See footnote 1.

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as expense or income over the life of the contract. Exchange differenceson such a contract should be recognised in the statement of profit andloss in the reporting period in which the exchange rates change. Any
profit or loss arising on cancellation or renewal of such a forward
exchange contract should be recognised as income or as expense for theperiod.
37. The risks associated with changes in exchange rates may be mitigatedby entering into forward exchange contracts. Any premium or discountarising at the inception of a forward exchange contract is accounted forseparately from the exchange differences on the forward exchange contract.
The premium or discount that arises on entering into the contract ismeasured by the difference between the exchange rate at the date of the
inception of the forward exchange contract and the forward rate specified
in the contract. Exchange difference on a forward exchange contract is thedifference between (a) the foreign currency amount of the contract
translated at the exchange rate at the reporting date, or the settlement datewhere the transaction is settled during the reporting period, and (b) thesame foreign currency amount translated at the latter of the date of inceptionof the forward exchange contract and the last reporting date.
38. A gain or loss on a forward exchange contract to which paragraph
36 does not apply should be computed by multiplying the foreign currency
amount of the forward exchange contract by the difference between theforward rate available at the reporting date for the remaining maturityof the contract and the contracted forward rate (or the forward rate lastused to measure a gain or loss on that contract for an earlier period).
The gain or loss so computed should be recognised in the statement of
profit and loss for the period. The premium or discount on the forward
exchange contract is not recognised separately.
39. In recording a forward exchange contract intended for trading or
speculation purposes, the premium or discount on the contract is ignored
and at each balance sheet date, the value of the contract is marked to its
current market value and the gain or loss on the contract is recognised.

Disclosure
40. An enterprise should disclose:

The Effects of Changes in Foreign Exchange Rates 123(a) the amount of exchange differences included in the net profit
or loss for the period; and(b) net exchange differences accumulated in foreign currencytranslation reserve as a separate component of shareholders’funds, and a reconciliation of the amount of such exchange
differences at the beginning and end of the period.
41. When the reporting currency is different from the currency of thecountry in which the enterprise is domiciled, the reason for using a
different currency should be disclosed. The reason for any change inthe reporting currency should also be disclosed.
42. When there is a change in the classification of a significant foreign
operation, an enterprise should disclose:(a) the nature of the change in classification;(b) the reason for the change;(c) the impact of the change in classification on shareholders’funds; and(d) the impact on net profit or loss for each prior period presented
had the change in classification occurred at the beginning of
the earliest period presented.
43. The effect on foreign currency monetary items or on the financial
statements of a foreign operation of a change in exchange rates occurring
after the balance sheet date is disclosed in accordance with AS 4,
Contingencies and Events Occurring After the Balance Sheet Date.
44. Disclosure is also encouraged of an enterprise’s foreign currency
risk management policy.

Transitional Provisions
45. On the first time application of this Standard, if a foreign branch
is classified as a non-integral foreign operation in accordance with therequirements of this Standard, the accounting treatment prescribed inparagraphs 33 and 34 of the Standard in respect of change in theclassification of a foreign operation should be applied.