Functional currency: adaptation is a strategic step for the client's business

By Renata Goldoni and Rejane Xavier

An entity's functional currency is the currency of the main economic market in which the entity operates. Thus, an entity may adopt a functional currency different from its national currency to keep its corporate accounting.

The matter deserves the attention of financial administrators and managers, because if the functional currency is not the one that reliably represents the main economic environment, the company may not present appropriate reports for stakeholders' asessesment.

Important definitions that need to be considered in the applicability of the functional currency

Monetary items – Existence of a right to receive or an obligation with fixed value of currency. Example: loans, sales, financing.

Non-monetary item – Absence of right to receive or obligation to deliver a fixed number of currency. Example: intangible assets, inventory, PP&E.

Who does it apply to?

Any company that identifies in its operations a functional currency different from the market in which it operates must adopt a functional currency in accordance with the rules stated in Technical Pronouncement CPC 02 - Effects of Changes in Exchange Rates and Conversion of Financial Statements.

The standard establishes how a company should include foreign currency transactions and foreign operations in the financial statements and how the conversion of financial statements to a reporting currency should be done.

This is when an accounting consultancy is needed to define the best operating structure of the business for the applicability of the functional currency.

Determining the functional currency

This definition must take into account the reality of the company, the economic context in which it operates. It is not a simple choice or option. The assessment must be careful, involve the business management and be supported by specialists who have a global view of accounting processes. The entity must consider a number of factors in determining its functional currency, including:

"(a) the currency:

(i) which most influences the selling prices of goods and services (usually it is the currency in which the selling prices for its goods and services are expressed and settled); and

(ii) of the country whose competitive force and regulations most influence the determination of sales prices for its goods and services;

(b) the currency that most influences factors such as labor, raw materials and other costs for supply of goods or services (usually it is the currency in which such costs are expressed and settled)”.

Those are the primary factors. Other secondary factors and additional variables in determining the foreign entity's functional currency should also be considered.