IFRIC 7, or the International Financial Reporting Interpretations Committee 7, provides guidance on applying the restatement approach under International Accounting Standard (IAS) 29 Financial Reporting in Hyperinflationary Economies. The restatement approach is used to adjust the financial statements of entities operating in hyperinflationary economies, where the general price level is continuously increasing. This approach ensures that the financial statements are presented in a manner that reflects the effects of inflation, allowing for meaningful comparisons with prior periods and between entities.
Definitions:
Hyperinflation:
A state of persistent and excessive inflation, where the general price level increases rapidly and continuously, resulting in a significant loss of purchasing power.
Restatement approach:
The method of restating financial statements to adjust for the effects of hyperinflation, by applying an inflation index to the historical cost of assets and liabilities, and the revenue and expense items of the period.
Explanations:
The restatement approach requires the use of an inflation index to adjust the financial statements for the effects of hyperinflation. The inflation index reflects the changes in the general price level, and is used to convert the historical cost of assets and liabilities, and the revenue and expense items of the period, into a current value.
The restatement approach involves the following steps:
Determine the functional currency of the entity, which is the currency of the primary economic environment in which it operates.
Determine whether the economy of the functional currency is hyperinflationary, based on the criteria outlined in IAS 29.
If the economy is hyperinflationary, restate the financial statements for the effects of inflation, using an inflation index that reflects the changes in the general price level.
Present the restated financial statements in the functional currency, with a note disclosing the effects of inflation on the financial statements.
Examples:
Example 1:
A company operates in a hyperinflationary economy, where the inflation rate is 50% per month. At the beginning of the year, the company purchased a machine for 1,000 units of currency, and recorded it in its financial statements at its historical cost. At the end of the year, the inflation index is 1,800. The restated value of the machine is calculated as follows:
Restated value = Historical cost x (Inflation index at the end of the year / Inflation index at the date of purchase)
Restated value = 1,000 x (1,800 / 1) = 1,800,000 units of currency
Example 2:
A company operates in a hyperinflationary economy, where the inflation rate is 100% per month. In the current year, the company recorded revenue of 10,000 units of currency, and expenses of 8,000 units of currency. The restated value of the revenue and expenses is calculated as follows:
Restated revenue = Revenue x (Inflation index at the end of the year / Inflation index at the date of recognition)
Restated revenue = 10,000 x (12 / 1) = 120,000 units of currency
Restated expenses = Expenses x (Inflation index at the end of the year / Inflation index at the date of recognition)
Restated expenses = 8,000 x (12 / 1) = 96,000 units of currency
The restated profit for the period is calculated as follows:
Restated profit = Restated revenue – Restated expenses
Restated profit = 120,000 – 96,000 = 24,000 units of currency
Case studies:
Case study 1:
A multinational company operates in a hyperinflationary economy, where the functional currency is the local currency. The company follows the restatement