Company Valuation Under IFRS : Interpreting and Forecasting ...

Chapter Four – Key issues in accounting and their treatment under IFRS
First, it books a substantial unrealised profit on the retranslation of its dollar debt
into fewer Krone. Second, its revenues in that year and in all subsequent years
fall in Krone terms because the dollar stream converts into fewer Krone (unless
oil and gas prices go up).
If one were modelling Statoil’s assets, it would make sense to model them in
dollars and to value them using a dollar discount rate. If one were modelling the
company, then it would still probably be easier to model it in dollars, value it in
dollars, and then convert the projected accounts into Krone.
Similar issues arise for mining companies and for oil companies. In the South
East Asian currency crisis of 1998, the equity of Thai Air was almost eliminated
by currency translation losses on its debt, which was almost all denominated in
dollars, while its assets where denominated in Baht. There was nothing
imprudent about its choice of borrowing currency. Its revenues were effectively
denominated in dollars, too, since this is the currency in which it priced its
flights, and in which it paid for its fuel.
The same comment cannot be made about a UK company which went
spectacularly bankrupt during the 1980s, namely Polly Peck. This company had
large financial assets and debts, with the assets mainly denominated in Turkish
Lire, and its loans mainly denominated in Swiss francs. The result was large
positive financial items in the profit and loss account, and large currency losses
recorded as other gains and losses and taken straight to shareholders’ funds. It
was still looking quite profitable as it became insolvent.
There are two messages from this sad tale. Firstly, other consolidated gains and
losses may or may not be ongoing, but they do count. Secondly, it should not be
assumed that all debt is automatically borrowed in the functional currency of the
company.
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