3.2 Selecting Exchange Rates

ASC 830 defines an exchange rate as the “ratio between a unit of one currency and the amount of another currency for which that unit can be exchanged at a particular time.”

3.2.1 Current Rate Versus Average Rate

Foreign entities are required to use the current exchange rate1 to translate their financial statements into the reporting currency of the reporting entity. ASC 830-30-45-3 describes such translation as follows:

All elements of financial statements shall be translated by using a current exchange rate as follows:

For assets and liabilities, the exchange rate at the balance sheet date shall be used.
For revenues, expenses, gains, and losses, the exchange rate at the dates on which those elements are recognized shall be used.

This guidance also applies to accounting allocations (for example, depreciation, cost of sales, and amortization of deferred revenues and expenses) and requires translation at the current exchange rates applicable to the dates those allocations are included in revenues and expenses (that is, not the rates on the dates the related items originated).

The following table summarizes the translation exchange rates to use for various types of accounts:

Type of Account	Exchange Rate for Translation
Assets and liabilities	Current exchange rate in effect on the balance sheet date
Equity (excluding change in retained earnings due to current-year net income)	Historical exchange rates
Dividends	Current rate at dividend declaration
Capital-contribution equity transactions	Current rate as of the transaction date
Change in retained earnings — current-year net income	Weighted-average exchange rate for the period
Income statement accounts	Weighted-average exchange rate for the period

As indicated above, assets and liabilities should be translated at the exchange rate on the balance sheet date. However, although ASC 830 states that revenues, expenses, gains, losses, and accounting allocations (e.g., depreciation, cost of sales, and amortization of deferred revenues and expenses) should be translated by using the exchange rate on each date of recognition in earnings during the period, a weighted-average rate generally may be appropriate, as discussed further below. Moreover, although ASC 830 does not provide guidance on which rate should be used to translate a foreign entity’s equity accounts, it would be appropriate to translate equity accounts at historical rates (as indicated in the table above), except changes to retained earnings for current-period net income, which would be translated at the weighted-average rate (discussed further below). When historical exchange rates are used, capital transactions, such as contributions, investments, and dividends, would be translated at the rate on the date of recognition.

Because of the recognition requirements for certain types of income statement items, translation at the exchange rate on each date of recognition may prove difficult or burdensome. ASC 830 therefore provides an expedient under which an entity uses an appropriate rate that is expected to yield a result similar to that achieved by using the exchange rate on each date of recognition.

ASC 830-10

55-10 Literal application of the standards in this Subtopic might require a degree of detail in record keeping and computations that could be burdensome as well as unnecessary to produce reasonable approximations of the results. Accordingly, it is acceptable to use averages or other methods of approximation. For example, because translation at the exchange rates at the dates the numerous revenues, expenses, gains, and losses are recognized is generally impractical, an appropriately weighted average exchange rate for the period may be used to translate those elements. Likewise, the use of other time- and effort-saving methods to approximate the results of detailed calculations is permitted.

55-11 Average rates used shall be appropriately weighted by the volume of functional currency transactions occurring during the accounting period. For example, to translate revenue and expense accounts for an annual period, individual revenue and expense accounts for each quarter or month may be translated at that quarter’s or that month’s average rate. The translated amounts for each quarter or month should then be combined for the annual totals.

Period-appropriate, weighted-average exchange rates are most commonly used for income statement items that have recognition patterns throughout the period. A monthly, quarterly, or annual rate should be determined and used to translate monthly, quarterly, or annual income statements, respectively. Monthly or quarterly income statements translated at the relevant averaged rates would then be added together, as appropriate, to arrive at the year-end statement. An entity should carefully determine when it is appropriate to use averaging to translate income statement items. For example, a weighted-average rate may not be appropriate for items that are tied to discrete events, such as certain impairments or write-offs. In that case, the exchange rate from that specific date would be required.

Connecting the Dots

When applying weighted-average exchange rates to income statement items, an entity should calculate the “weighting” appropriately by considering the pattern of recognition. Developing an appropriate weighted-average exchange rate may include consideration of complexities that are specific to the foreign entity’s operations, including seasonality, multiple product lines with various recognition patterns, and uneven expense recognition. An entity should also consider volatility in foreign currency exchange rates. Further, an entity has flexibility to determine the appropriate rate given that “other [appropriate] methods of approximation” may also be used for translating income statement items. For these reasons, consultation with accounting advisers is encouraged if an entity needs to use significant judgment in calculating a weighted-average exchange rate or applying another method of approximation.

3.2.2 Multiple Exchange Rates

When multiple legal exchange rates coexist, such as an official exchange rate and an unofficial exchange rate, a parallel or dual exchange-rate situation exists. In such circumstances, if it can be reasonably demonstrated that transactions have been or could have been legally settled at the unofficial rate (including currency exchanges for dividend or profit repatriations), it may be appropriate to use the unofficial rate for translation or remeasurement.

ASC 830-30

45-6 In the absence of unusual circumstances, the exchange rate applicable to conversion of a currency for purposes of dividend remittances shall be used to translate foreign currency statements.

Although not codified, paragraph 138 of the Basis for Conclusions of FASB Statement 52 (codified in ASC 830) is helpful for understanding this concept. The FASB concluded that in the absence of unusual circumstances, an entity should use the dividend remittance rate to translate foreign financial statements if multiple exchange rates exist. This rate was considered more meaningful because cash flows to the reporting entity can only occur at this rate and realization of the net investment depends on the cash flows from that foreign entity.

Unusual circumstances in which an entity may be permitted to use an alternative legal exchange rate in translating the financial statements of a foreign subsidiary could include (1) a history of obtaining the alternative exchange rate for remittances of earnings or dividends distributed outside the foreign country and (2) the ability to source funds at the alternative exchange rate if there is no question of asset impairment.

Example 3-1

Multiple Exchange Rates

Company A, a U.S. company whose fiscal year ended on June 30, 20X1, has a foreign subsidiary, Company B. On June 30, 20X1, an official exchange rate existed for conversion of the foreign currency to USD. Because of foreign currency restrictions, however, few exchanges were made at that rate. About 80 percent of B’s earnings for the year ended June 30, 20X1, were converted to USD (and remitted to A) at a rate substantially lower than the official rate (the unofficial rate). The unofficial exchange rate was determined by the local broker making the conversion and by an informal foreign exchange market that existed in the foreign country. Although exchange restrictions existed, B’s remittance transactions at the unofficial rate were not illegal transactions. In this example, the unofficial rate should be used for translation or remeasurement.

Furthermore, the rate used must be a legal rate (see Section 3.2.4).

3.2.2.1 Determining the Appropriate Exchange Rate for Remeasurement When Multiple Rates Exist

Under ASC 830, all entities must remeasure all foreign-currency-denominated transactions into their functional currency for each reporting period, with changes in foreign currency rates recognized in earnings. ASC 830-20-30-3 indicates that to perform such remeasurement, an entity should use the applicable rate(s) at which a transaction could be settled as of the transaction date to translate and record the transaction. If multiple exchange mechanisms and published exchange rates exist that are considered to be legal (official and unofficial), such rates could potentially be available for remeasurement. Accordingly, the entity will be required to reevaluate the exchange rate previously used for remeasurement. While the ultimate selection of an exchange rate (or multiple rates) should be based on the entity’s specific facts and circumstances, relevant factors for consideration include (but may not be limited to) the following:

Whether the entity can legally use a specified rate (or multiple rates) to convert currency or settle transactions.
Whether the exchange rates are published.
The probability of accessing and obtaining USD by using a particular rate or exchange mechanism.
The entity’s intent and ability to use a particular exchange mechanism.

Management will need to exercise significant judgment when considering the above factors. Accordingly, an entity should clearly document the facts and circumstances that it considered in its analysis of what exchange rate(s) to use for remeasurement. Because of the potential for frequent changes in exchange rate mechanisms, an entity may not have experience with settling transactions at certain exchange rates given the limited period in which these exchange rates have been available. Notwithstanding a lack of history at transacting at a particular exchange rate, an entity should be able to support (1) how the rate or rates used for remeasurement are most representative of the entity’s economic circumstances and (2) its intent to use the rate(s) or exchange mechanism(s) specified. An entity may also need to assess whether it should obtain a legal interpretation to sustain its assertion that it can access certain exchange rates and mechanisms.

The SEC considerations below are based on informal discussions with the SEC staff regarding Venezuelan highly inflationary foreign operations. However, entities can apply these observations in determining the most appropriate exchange rate to use when multiple exchange mechanisms and published exchange rates exist.

SEC Considerations

The SEC staff has observed that as a result of changes in the currency rate environment, an entity may, in certain circumstances, be able to support using a rate other than the official rate for remeasurement.

When determining the most appropriate exchange rate(s) for remeasurement of an entity’s foreign-currency-denominated monetary balances when multiple exchange rates exist, an entity may find the following process helpful:

Identify transactions for which the entity’s government has granted approval to obtain another currency at certain rates (including foreign-currency-denominated monetary assets that will be required before approved foreign-currency-denominated liabilities can be settled) and remeasure by using the preapproved exchange rate(s).
For any remaining foreign-currency-denominated liabilities (i.e., those for which the entity’s government has not yet granted approval to settle by using the foreign currency obtained at certain rates), determine which mechanisms the entity can legally access to obtain the foreign currency and remeasure the volume of foreign-currency-denominated monetary assets needed to obtain that foreign currency at the exchange rates that the entity expects to use when it settles the payables.
Remeasure any remaining net foreign-currency-denominated monetary items by using the rates that are most representative of the entity’s economics and are most likely to be available to settle the transactions.

SEC Considerations

The SEC staff identified factors that registrants should consider in selecting the exchange rate(s) to use for remeasurement. The staff reiterated that:

A registrant must exercise judgment when determining the exchange rate(s) that should be used to remeasure its foreign-currency-denominated balances. That judgment should be based on the registrant’s specific facts and circumstances.
In U.S. GAAP, there is no support for use of a rebuttable presumption under which registrants should remeasure foreign currency monetary assets/liabilities by using the least favorable legal exchange rate when multiple legal exchange rates exist.
A registrant that previously used a different rate to remeasure its foreign-currency-denominated monetary assets/liabilities in prior periods should (1) consider all of the recent changes in the entity’s foreign exchange mechanisms and (2) consistently apply its rate selection approach.
Depending on facts and circumstances, it may be appropriate for a registrant to use multiple exchange rates for remeasurement.
Registrants with material foreign operations affected by multiple exchange rates should continue to provide transparent disclosures regarding the items described above.

Regardless of the rate selected, registrants should maintain documentation of their rate selection analysis as well as the relevant facts and circumstances they considered in using their judgment to select an appropriate exchange rate or rates.

3.2.2.2 Assets and Liabilities Subject to Multiple Exchange Rates

ASC 830-30 — SEC Materials — SEC Staff Guidance

SEC Staff Announcement: Foreign Currency Issues: Multiple Foreign Currency Exchange Rates

S99-1 This SEC staff announcement provides the SEC staff’s views on Foreign Currency Issues.

The SEC staff has received a number of inquiries regarding certain foreign currency issues related to investments in Venezuela. This announcement is in response to those inquiries that have been received by the SEC staff on the issues described below.

Amongst other requirements, current restrictions of foreign currency exchange in Venezuela provide that entities use the official rate of exchange (official rate) to exchange funds. The official rate is set by the Venezuelan government and in order to use the official rate to exchange currency, entities seek the ability to utilize the official rate from Venezuela’s Commission for Administration of Foreign Currencies (CADIVI).

As an alternative to the use of the official rate it may also be legal to utilize the parallel rate. It is possible that the parallel rate provides entities with a more liquid exchange and entities can access the parallel rate using a series of transactions via a broker. The parallel rate has recently been significantly different from the official rate.

Reported Balances in an Entity’s Financial Statements That Differ From Their Underlying U.S. Dollar Denominated Values

With respect to accounting for a subsidiary in Venezuela in cases where the parent’s reporting currency is the U.S. dollar and the Venezuelan subsidiary’s functional currency is the Venezuelan Bolivar (“Bolivar” or “BsF”), the staff has recently become aware of the following fact pattern: In years prior to 2010, certain entities may have used the parallel rate to remeasure certain U.S. dollar denominated balances that the Venezuelan subsidiary held and then subsequently translated the Venezuelan subsidiary’s assets, liabilities, and operations using the official rate. The effect of this accounting treatment resulted in reported balances in an entity’s financial statements that differed from their underlying U.S. dollar denominated values. (The staff notes that these differences arise when different rates are used for remeasurement and translation.) In order to illustrate the impact that these differences may have on different accounts within the financial statements, two illustrations are provided below.

First, assume that at a period end prior to January 1, 2010 (for a calendar year entity), a U.S. entity’s Venezuelan subsidiary held $10 million of cash denominated in U.S. dollars. Further assume that at the period end, the parallel rate was 5 Bolivars to every 1 U.S. dollar and the official rate was 2 Bolivars to every 1 U.S. dollar. Upon the remeasurement of the U.S. denominated cash to Bolivars and the subsequent translation of the Venezuelan subsidiary’s financial statements, an entity would have reported cash of $25 million for financial reporting purposes. (The $25 million is calculated as follows: First, the $10 million of cash is remeasured using the parallel rate to 50 million BsF; subsequently, the 50 million BsF is translated back to U.S. dollars using the official rate of 2 Bolivars to 1 U.S. dollars, resulting in a translated reported balance of $25 million.)

Second, assume that at a period end prior to January 1, 2010 (for a calendar year entity), a U.S. entity’s Venezuelan subsidiary held $15 million of accounts payable denominated in U.S. dollars (also assume the exchange rates are the same as in the example above). Upon the remeasurement of the U.S. denominated accounts payables to Bolivars and the subsequent translation of the Venezuelan subsidiary’s financial statements, an entity would have reported accounts payable of $37.5 million for financial reporting purposes. (The $37.5 million is calculated as follows: First, the $15 million of accounts payable is remeasured using the parallel rate to 75 million BsF; subsequently, the 75 million BsF is translated back to U.S. dollars using the official rate of 2 Bolivars to 1 U.S. dollars, resulting in a translated reported balance of $37.5 million.)

Finally, the staff has noted that Venezuela has met the thresholds for being considered highly inflationary and accordingly, calendar year entities that have not previously accounted for their Venezuelan investment as highly inflationary will begin applying highly inflationary accounting beginning January 1, 2010.

Disclosures

The staff believes that in cases where reported balances for financial reporting purposes differ from the actual U.S. dollar denominated balances (such as in the illustrations above), a registrant should make disclosures that inform users of the financial statements as to the nature of these differences. When material, the disclosures in both annual and interim financial statements should, at a minimum, consist of the following (The staff is aware that certain registrants have already filed their 2009 Form 10-K’s and accordingly the staff would not necessarily expect these specific disclosures to be included in these registrant’s 2009 Form 10-K’s.):

Disclosure of the rates used for remeasurement and translation.
A description of why the actual U.S. dollar denominated balances differ from the amounts reported for financial reporting purposes, including the reasons for using two different rates with respect to remeasurement and translation.
Disclosure of the relevant line items (e.g. cash, accounts payable) on the financial statements for which the amounts reported for financial reporting purposes differ from the underlying U.S. dollar denominated values.
For each relevant line item, the difference between the amounts reported for financial reporting purposes versus the underlying U.S. dollar denominated values.
Disclosure of the amount that will be recognized through the income statement (as well as the impact on the other financial statements) as part of highly inflationary accounting beginning in 2010 (see below).

Impact of Highly Inflationary Accounting on Differences Between Amounts Recorded for Financial Reporting Purposes Versus the Underlying U.S. Dollar Denominated Values

The staff notes that upon application of highly inflationary accounting (January 1, 2010 for calendar year registrants), registrants must follow the accounting outlined in paragraph 830-10-45-11, which states that “the financial statements of a foreign entity in a highly inflationary economy shall be remeasured as if the functional currency were the reporting currency.”

Accordingly, upon the application of highly inflationary accounting requirements, a U.S. reporting currency parent and subsidiary effectively utilize the same currency (U.S. dollars) and accordingly there should no longer be any differences between the amounts reported for financial reporting purposes and the amount of any underlying U.S. dollar denominated values that are held by the subsidiary. Therefore, the staff believes that any differences that may have existed prior to applying highly inflationary accounting requirements between the reported balances for financial reporting and the U.S. dollar denominated balances should be recognized in the income statement, unless the registrant can document that the difference was previously recognized as a cumulative translation adjustment (in which case the difference should be recognized as an adjustment to the cumulative translation adjustment).

Furthermore, the staff believes that these differences should be recognized at the time of adoption of highly inflationary accounting.

Other

The SEC staff is aware that the EITF will be discussing certain issues related to foreign currency, including the accounting for multiple exchange rates in Venezuela, and accordingly the guidance in this staff announcement is intended to be interim guidance pending the EITF completing its deliberations.

When “differences that may have existed prior to applying highly inflationary accounting requirements between the reported balances for financial reporting and the U.S. dollar denominated balances” are to be recognized in earnings, an entity should disclose the effects of the adjustment on the financial statements in the period before the entity reflects the accounting effects of the economy’s becoming highly inflationary.

Connecting the Dots

Although the guidance above indicates that recognition of the impact in CTA is a potential outcome when highly inflationary accounting is initially adopted, such an outcome is expected to be rare in practice. In cases in which an entity believes that it can demonstrate that the difference was previously recognized in CTA, consultation with accounting advisers is strongly encouraged.

3.2.3 Preference or Penalty Rates

ASC 830-30

45-7 If unsettled intra-entity transactions are subject to and translated using preference or penalty rates, translation of foreign currency statements at the rate applicable to dividend remittances may cause a difference between intra-entity receivables and payables. Until that difference is eliminated by settlement of the intra-entity transaction, the difference shall be treated as a receivable or payable in the reporting entity’s financial statements.

Regulation of foreign exchange markets by foreign governments may dictate the exchange rates to be used to convert local currency into other currencies. Those rates are set by the foreign governments, rather than the market exchange rate, and may be either favorable (preferential rate) or unfavorable (penalty rate) compared with the rate that applies to other transactions. For example, a foreign government may establish a rate of LC5:$1 for certain goods it deems essential while the prevailing market rate may be LC10:$1. As indicated in the example above provided by the SEC staff in a speech, this situation has existed in Venezuela in recent years because its government enacted regulations to protect the country’s level of currency reserves as a result of the deterioration of the Venezuelan economy.

An entity should carefully consider whether the rate to be used for remeasuring monetary items is the preference or penalty rate and should appropriately support use of either rate for remeasuring monetary items to demonstrate that conversion of the monetary items at that rate could have been achieved. If use of a preference or penalty rate cannot be supported, the entity should use the rate applicable to dividend remittances.

Connecting the Dots

In certain jurisdictions, governments enact exchange laws that impose strict criminal and economic sanctions on exchanging local currency with other foreign currency through methods that are not officially designated or on obtaining foreign currency under false pretenses.

Because of the currency volume limitations imposed by governments, entities may try to find other legal ways of exchanging currency. One method that some entities use is the purchase of debt or equity securities in the local market and the immediate sale of those securities in the international market for a different currency, generally U.S. dollars. These transactions result in an indirect rate — sometimes called a “parallel,” “offshore,” or “blue chip” rate — through which entities may obtain foreign currency “legally” without resorting to or requesting currency directly from the government. The average rate of exchange in these markets is variable and can fluctuate significantly above the official rate. The U.S. security would be purchased and subsequently sold outside the jurisdiction that imposes the currency restrictions. Therefore, these market transactions may be used to settle foreign currency obligations and to move currency in and out of those jurisdictions.

When entities transact by swapping securities, foreign currency is purchased through a series of transactions that involve a broker. For example, an entity would purchase a bond in the local jurisdiction by using local currency, swap it for a U.S.-dollar-denominated security, sell the U.S. security on the international securities market, and obtain U.S. dollars on the same date. However, in certain jurisdictions, laws preclude an entity from purchasing and selling securities on the same date in a different jurisdiction. Such a situation is referred to as the minimum holding period (e.g., three or five days). When a minimum holding period exists, the purchase/sale of securities cannot be construed as representing an exchange rate under ASC 830 but should be considered a purchase and separate disposal of securities in which the gain or loss represents a gain or loss on the disposal of securities. The determination of whether a minimum holding period exists is a matter of legal interpretation; accordingly, entities should consider obtaining legal advice when making this determination.

3.2.4 Black Market Rates

In certain countries, illegal foreign currency exchange markets may develop as a result of restrictive foreign exchange controls. Such markets and resulting rates are referred to as “black market exchange rates” or “black market rates” since they are not legally recognized. Accordingly, use of black market rates is not appropriate for either remeasurement or translation purposes under ASC 830.

This conclusion is consistent with discussion at the March 4, 2003, meeting of the AICPA SEC Regulations Committee’s International Practices Task Force2 (IPTF or “the Task Force”) and was later reaffirmed in the highlights of the November 25, 2008, meeting concerning the appropriate foreign exchange rates to be used for remeasurement and translation purposes. The meeting highlights state, in part:

The Task Force believes that . . . US GAAP does not permit the use of a black market exchange rate since such a rate is not objective or determinable. Instead, individual transactions should be translated at either the parallel rate, or the official exchange rate based on the facts and circumstances, and if there are more than one official exchange rate depending on the transaction (e.g., dividend remittances), then the appropriate exchange rate should be used.

3.2.5 Lack of Exchangeability

ASC 830-20

30-2 If exchangeability between two currencies is temporarily lacking at the transaction date or balance sheet date, the first subsequent rate at which exchanges could be made shall be used for purposes of this Subtopic. If the lack of exchangeability is other than temporary, the propriety of consolidating, combining, or accounting for the foreign operation by the equity method in the financial statements of the reporting entity shall be carefully considered.

This concept is illustrated in the following example from ASC 830-30-55-1:

Example 1: Exchange Rate When Exchangeability Is Lacking Temporarily

This Example illustrates the appropriate exchange rate to be used for translating financial statements when foreign exchange trading is temporarily suspended at year-end. The following are facts involving a reporting entity that had a significant subsidiary in Israel:

On December 29, 1988, the currency market was open and foreign currencies were traded. The exchange rate was FC 1.68 = USD 1.00.
On December 30, 1988, Israeli banks were officially open but foreign exchange trading was suspended until January 2, 1989. A devaluation to occur on January 2, 1989, was announced. Most businesses were closed for the holidays.
On December 31, 1988, banks were closed.
On January 1, 1989, banks were closed.
On January 2, 1989, foreign exchange transactions were executed but left unsettled until the following day when a new rate was to be established.
On January 3, 1989, a new exchange rate of FC 1.81 = USD 1.00 was established and was effective for transactions left unsettled the previous day.

Thus, exchangeability was temporarily lacking and the rate established as of January 3, 1989, the first subsequent rate, is the appropriate rate to use for translating the December 31, 1988, financial statements.

In a manner consistent with ASC 830-20-30-2 and the example above, if there is a temporary lack of exchangeability between two currencies as of the transaction or balance sheet date, an entity should use the first subsequent rate at which exchanges could be made.

The IPTF discussed what was intended by the term “first subsequent rate” at its January 14, 2001, meeting. The meeting highlights state:

The Task Force did not believe that this guidance should be read literally as the “first” exchange transaction. Certain members of the Task Force informally discussed this issue with the staff of the FASB, who indicated their view that the guidance in FAS 52 was not intended to be literally the “first” transaction.

Accordingly, an entity should use judgment in determining the appropriate exchange rate to use. In making this determination, the entity should consider all factors available, including the volume, size, and types of transactions. Furthermore, the absence of observable large transactions would not necessarily be indicative of a continued temporary lack of exchangeability.

Footnotes

ASC 830-30-45-4 defines the current exchange rate as “the rate as of the end of the period covered by the financial statements or as of the dates of recognition in those statements in the case of revenues, expenses, gains, and losses.”

The IPTF is a committee of the Center for Audit Quality that focuses on emerging international technical accounting and reporting issues related to SEC rules and regulations. The IPTF meets periodically with the SEC staff to discuss such issues.

Confidential and Proprietary — for Use Solely by Authorized Personnel

This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.