Businesses today frequently deal in foreign currencies — for example, an Indian company may export goods in US dollars or have a branch operating abroad. Since exchange rates between currencies keep changing, these fluctuations affect how income, expenses, assets, and liabilities are recorded in financial statements. To ensure uniform and transparent accounting of such transactions, the Institute of Chartered Accountants of India (ICAI) introduced Accounting Standard (AS) 11 – The Effects of Changes in Foreign Exchange Rates. This Standard was first issued in 1989, revised in 1994, and again in 2003. It became mandatory for all accounting periods beginning on or after 1 April 2004.
What is AS 11?
Accounting Standard (AS) 11 – The Effects of Changes in Foreign Exchange Rates, is an accounting rule issued by the Institute of Chartered Accountants of India (ICAI) which lays down how companies should record and report transactions that involve foreign currencies, such as exports, imports, foreign loans, or overseas investments.
Objective of AS 11
The main purpose of AS 11 is to guide how companies should record foreign currency transactions and translate the financial statements of their foreign branches or subsidiaries into the reporting currency (usually Indian Rupees).
In simple terms, AS 11 helps answer two important questions:
- Which exchange rate should be used when recording a foreign currency transaction?
- How should a company show the impact of exchange rate changes in its financial statements?
Scope of AS 11
AS 11 applies to:
- Transactions in foreign currencies (for example, buying goods in dollars).
- Translating financial statements of foreign operations (for instance, an Indian company’s UK branch).
- Forward exchange contracts (agreements to buy or sell currency at a future date at a fixed rate).
However, AS 11 does not apply to the following:
- Cash flow statements (these are covered under AS 3).
- Exchange differences are considered part of borrowing costs (covered under AS 16).
- Simply restating accounts in another currency for convenience.
Terms and their meaning
To understand AS 11, a few key terms are essential:
| Term | Meaning |
| Exchange Rate | The rate at which one currency can be exchanged for another. |
| Closing Rate | The exchange rate on the balance sheet date. |
| Average Rate | The average of exchange rates during a specific period. |
| Exchange Difference | The gain or loss arising from changes in exchange rates. |
| Foreign Currency | Any currency other than the company’s reporting currency (like the US dollar for an Indian firm). |
| Integral Foreign Operation | A foreign branch that acts as an extension of the home company (e.g., an Indian factory’s branch that only sells Indian goods). |
| Non-Integral Foreign Operation | A branch or subsidiary that operates independently in another country (e.g., a self-sustaining UK subsidiary of an Indian company). |
Accounting for Foreign Currency Transactions
1. Initial recognition: When a company buys or sells goods or services in foreign currency, the transaction must be recorded on the date it occurs using the exchange rate on that date.
For Example:
If an Indian company sells goods worth USD 10,000 on 1st May when the exchange rate is ₹83 per USD, it will record ₹8,30,000 as sales.
Sometimes, instead of using the exact rate on each day, an average rate (like weekly or monthly) may be used, but only if rates don’t fluctuate much.
2. Reporting at balance sheet date: At the end of the accounting year, companies must adjust their foreign currency items as follows:
- Monetary items (cash, payables, receivables) → use the closing rate.
- Non-monetary items at historical cost → use the rate on the date of the transaction.
- Non-monetary items at fair value → use the rate on the date fair value was determined.
For Example:
If a company has a USD receivable, and the dollar strengthens by ₹2 by year-end, the company gains that difference; it must be recorded as income.
3. Recognition of Exchange Differences: The change in value due to exchange rate movements is called an exchange difference. These differences are recorded as income or expense in the Profit and Loss Account of that year. However, there are exceptions, for example, exchange differences related to foreign branches may be treated differently (explained below).
Net Investment in a Foreign Operation
If a company has invested in a non-integrated foreign operation (like a subsidiary abroad), the exchange differences on long-term loans or receivables from that subsidiary are not immediately recorded as income or loss. Instead, they are kept in a separate account called Foreign Currency Translation Reserve (FCTR) until the investment is sold or disposed of.
Translating Financial Statements of Foreign Operations
1. Integral Foreign Operations: When the foreign operation is an integral part of the Indian business, it is treated as if all transactions happened in India.
So, the same principles as domestic transactions apply to monetary items at the closing rate, and non-monetary items at historical or fair value rates.
For Example:
An Indian company’s Dubai branch sells only Indian-manufactured goods and sends all earnings back to India. This is an integral operation.
2. Non-Integral Foreign Operations: When the foreign branch operates independently, it is a non-integral operation. In such cases:
- Assets and liabilities → translated at the closing rate.
- Income and expenses → translated at actual or average exchange rates during the period.
- Exchange differences → recorded in the Foreign Currency Translation Reserve (FCTR) under shareholders’ funds, not in profit and loss.
When such a foreign operation is sold or closed, the accumulated exchange difference in the FCTR is then transferred to profit or loss.
Forward Exchange Contracts
Companies often protect themselves from currency fluctuations by entering into a forward contract, an agreement to buy or sell currency at a fixed rate in the future.
AS 11 requires that:
- The premium or discount on such contracts is spread over the life of the contract as income or expense.
- Any gain or loss arising due to rate changes is recorded in the profit and loss account in that period.
- If the contract is cancelled or renewed, the resulting profit or loss is also recorded immediately.
Disclosures Required under AS 11
To ensure transparency, companies must disclose:
- Exchange differences are included in profit or loss for the period.
- Reconciliation of translation reserves that shows opening and closing balances.
- Reasons for using a reporting currency different from the home country’s currency.
- Reasons and effects of change in classification (for instance, when a branch becomes a subsidiary).
- (Encouraged) A note on the company’s foreign currency risk management policy.
Importance of AS 11 for Businesses
AS 11 ensures that businesses present a true and fair view of their financial performance and position by:
- Preventing arbitrary exchange rate use.
- Ensuring consistency in reporting.
- Making global comparisons easier.
- Reflecting the real effect of currency fluctuations on profits and assets.
- Protecting investors and lenders from misleading figures.
Conclusion
Foreign exchange rates constantly change, and these fluctuations can significantly impact a company’s financial results. AS 11 ensures that such effects are recorded in a systematic, transparent, and comparable manner. By defining clear rules for how and when to record these differences, AS 11 not only simplifies accounting for global transactions but also strengthens investor confidence in the accuracy of financial reporting.
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