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Attention exporters and EPZ locators: Comply with PAS 21 without having to tangle with a dual-currency software
You can adopt one or both phases of a two-step approach: first, a cost-free, process-and-procedures-based phase, and then, if you like, a computer-assisted phase as well. It's a robust, long-lasting, cost-effective solution to the new reporting required by the SEC, the BIR, and PAS 21.
You can adopt one or both phases of a two-step approach: first, a cost-free, process-and-procedures-based phase, and then, if you like, a computer-assisted phase as well. It's a robust, long-lasting, cost-effective solution to the new reporting required by the SEC, the BIR, and PAS 21.
Posted on 19 January 2007
This article is addressed to CEOs, CFOs and Chief Accountants of companies intending to change their currency for financial reporting from the Philippine peso to another currency, which shall henceforth be their functional currency. A functional currency is the currency of the primary economic environment in which a company operates. Examples of companies in this situation are Export Processing Zone locators and certain exporters.
Why in the first place would a company want to use a functional currency other than the peso, when that firm is physically located in the Philippines? Our research shows that, in practical terms, a firm would want to shift to a non-Peso functional currency if this firm's most valuable transactions are in that non-Peso currency. Mind, not the most numerous transactions, but rather, those transactions that represent the bulk of the value of all its transactions.
RECOGNIZING this, the SEC recently eased the rules on companies wanting to shift their main, or functional, currency from the peso to something else. Qualified companies no longer need SEC approval to shift to functional currency reporting; they merely need to notify the SEC of their intention. (See SEC Memorandum Circular 1, Series of 2006: “Guidelines on the filing of functional currency financial statements” (dated 15 December 2005).)
Let’s examine this interesting relaxation of a bureaucratic requirement. To begin with, the SEC takes its cue from PAS 21, the recently promulgated Philippine Accounting Standard 21: “The Effects of Changes in Foreign Exchange Rates.” (PAS 21 is based on IAS 21 (International Accounting Standard 21), which is identically titled.) The SEC has relaxed its requirements because PAS 21 now provides clear guidelines on functional currency reporting.
LET'S SEE what PAS 21 says about functional currency reporting. It’s actually all comfortingly familiar. Let’s say a hypothetical company called Djumongous Manufacturing decides to change its functional currency from the peso to the US dollar. (It could just as easily have chosen the Japanese Yen or the Euro.)
Here, in (over)simplified form, is what PAS 21 says. First, when Djumongous adopts the US dollar as its functional currency, the roles are reversed: the Philippine peso suddenly gets treated as the foreign currency, from Djumongous’s point of view. Djumongous starts keeping its books in USD; and whenever there is a peso transaction, Djumongous’s bookkeeper converts the peso amount to USD at the spot exchange rate prevailing on the date of the transaction, then books the transaction in USD into Djumongous’s subsidiary ledgers (PAS 21, paragraph 21). This is exactly what Djumongous used to do when the peso was its main (i.e., functional) currency, and the USD was the foreign currency, except now the roles are reversed.
In subsequent financial statements, non-monetary items (e.g. inventory, plant and equipment), if carried at historical cost, are translated into the functional currency at the exchange rate prevailing on the original transaction date (PAS 21, paragraph 23(b)). Which is reasonable, logical, and about what you'd expect. If carried at fair value, non-monetary items are translated at the exchange rate prevailing on the date the fair value was set (PAS 21, paragraph 23(c)). Again, reasonable and logical. Monetary items, on the other hand, such as cash and near-cash, are translated into the functional currency at the exchange rate prevailing on financial statement date (PAS 21, paragraph 23(a)). Again, this is what a reasonable accountant or CFO would expect from a reasonable government regulator.
AS THINGS have been described so far, Djumongous, peacefully going about its business, would produce a balance sheet and income statement denominated in US dollars at the end of each month, and all’s well with the world.
The SEC's rule on functional currency reporting raises a problem in messy, real, daily life: how to convert transactions in the secondary (or tertiary) currency(ies) into the main (functional) currency.
Following are some of the main considerations regarding this reporting challenge.
A. Exactly what items need to be converted?
In practice, the following items are usually in Peso and need to be converted into the functional currency, usually the Dollar, for financial statement purposes:
1) Depreciation charges
2) Cash disbursements – payments for purchases of raw materials, supplies, and any other locally sourced items
3) Purchase journal - unpaid items (i.e., Accounts Payable) in Peso
4) Salaries and wages – obviously paid in Peso
5) Employer contributions to the Philippine SSS, PHIC, HDMF
6) Petty cash disbursements
B. A sensible journalizing technique that utilizes Subsidiary Ledger summaries
To minimize or eliminate the tedium and save the precious time consumed in converting a secondary currency transaction into the functional currency, Djumongous Mfg.'s Chief Accountant should summarize the above-enumerated Peso transactions using a spreadsheet app like Excel, and then convert the grand totals (only the grand totals, mind you) to the functional currency, which she then journalizes to Djumongous's GL (if Djumongous were a Balmori Software user, that would be our SURE! GL application).
FOR EXAMPLE, the Chief Accountant journalizes the total of all sales, rather than each individual sales transaction. She journalizes the total of all purchases, rather than each individual purchase transaction. She journalizes the total of all collections, rather than each individual collection transaction. And so on.
The Excel spreadsheets listing the detailed transactions will serve as the schedules supporting the journal entries.
THE KEY to this approach is that the Chief Accountant maintains the Peso transactions in Peso-denominated subsidiary ledgers; then she converts only the monthly grand totals of the above transactions into the functional currency, and subsequently journalizes them to the GL. (It's the insistence on journalizing every single transaction into the GL that makes it seem necessary to convert each and every transaction to another currency, which in turn makes it appear that the PAS 21 rules can only be dealt with by a multi-currency software. This is a fallacy trap.)
With the summarization approach, familiar to every classically trained accountant, the result is that very few transactions need ever actually be converted to another currency and then journalized into the GL; therefore, massive amounts of time are saved in the bookkeeping process, without the need to purchase an expensive, complex, and difficult-to-use multiple-currency accounting application.
C. Going one step further: a software solution to totally automate - and speed up - the Subsidiary Ledger recording
A serious shortcoming remains in the spreadsheet-based solution described in paragraph B above: maintaining the Subsidiary Ledgers (A/R, A/P, Purchase Book, Sales Book, Collections Book, Disbursements Book, Customer Ledger, Supplier Ledger, Inventory, etc.) is still tedious if our friend the Chief Accountant relies on a spreadsheet solution like Excel.
Why is a spreadsheet model still tedious in this situation?
IN PRACTICAL TERMS, there's still a lot of labor content in recording accounting transactions into a spreadsheet model, as the bookkeeper remains obliged to manually, sequentially, record each transaction into each affected book. Yes, even when you're not converting each individual transaction to a different currency. This circumstance reveals the two difficulties in maintaining your subsidiary ledgers with a spreadsheet model: a spreadsheet (a) does not have built-in error-trapping, and (b) is not an integrated solution (it doesn't automatically synchronize all books in your subsidiary ledgers).
Indeed, synchronization of books - not currency conversion - is the main problem - the real problem - needing a computerized solution. Synchronize your subsidiary ledgers, and you solve your PAS 21 reporting concerns. Easily.
To address this real - as opposed to illusory - concern. Balmori Software offers its Subsidiary Ledger application called SURE! DMS. This application produces the above-enumerated schedules entirely automatically, much faster, and much more reliably.
SURE! DMS is more viable than a spreadsheet model because (a) it has the built-in error-trapping not found in a spreadsheet model; (b) it's an integrated solution, with automatic synchronization of all books that could possibly be affected by a transaction; and ( c) its algorithms cannot be casually modified by a user. These features serve to increase time savings, and to reduce defects (i.e., mispostings and algorithm crashes).
The Chief Accountant merely picks up the grand totals from the relevant schedules automatically spewed out by SURE! DMS, and quickly converts these to the functional currency, as described in Paragraph B above. Again, it is only the converted aggregate amounts that need be journalized into the GL application.
CONCLUSION. The time savings from the approach described in this article come from two practices:
1. The reporting firm resolves to journalize only grand totals of secondary-currency transactions to its GL; and
2. The reporting firm adopts Balmori's SURE! DMS application to sidestep the non-synchronized, non-integrated, and therefore inconsistency-prone nature of a spreadsheet-based Subsidiary Ledger system.
Balmori Software will be pleased to demonstrate SURE! DMS to potential users as a viable, robust, and easy-to-use solution to the reporting demands of the SEC's functional currency rule. Interested parties may e-mail us at balmori@balmorisoftware.com, or call us at (632) 890-1976 or 77.
(Many thanks to Joy Reyes of Kapco Manufacturing for her valuable inputs during the writing of this article.) RSR
Questions? Reactions? Write to balmori@balmorisoftware.com.
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