Understanding Vietnamese accounting standards

Following the world financial crisis and the local economic environment’s instability since 2008, Vietnam’s economy has experienced several continuing impacts.

The dong’s devaluation can be traced to many factors, including trade deficit, high inflation and high interest rates
An issue that caused significant concern to many people and organisations in Vietnam was the continuing trend of the Vietnamese dong’s devaluation against the US dollar. From the beginning of 2009 to the end of March 2010, the dong depreciated by approximately 9.2 per cent against the dollar, while the dollar remained relatively weak compared to other major currencies.

The devaluation pressure appeared to have been built up from various factors including the dong’s high inflation back in 2008, the dong’s significantly higher interest rates compared to the dollar and continuing trade deficits during the last 11 months.

The State Bank manages the dong-dollar exchange rate through the so-called “average inter-bank exchange rate” which is announced by the State Bank on a daily basis and a trading band within which banks are allowed to conduct currency exchange transactions within. Since January 2009, the State Bank has made two significant adjustments to the average inter-bank exchange rate, a 5.4 per cent devaluation of the dong in November 2009 and another 3.4 per cent devaluation in February 2010.

The State Bank also increased the trading band from +/-3 per cent to +/-5 per cent in March 2009 and reduced it back to +/-3 per cent in November 2009. The effect of these adjustments can be seen clearly on Figure 1. We can also observe a fact that selling rate for the dollar quoted by commercial banks has always been close to the ceiling of the trading band and exchange rate on the unofficial market is usually higher than that.

While businesses are concerned about the exposures to foreign exchange risks, e.g. having liabilities in foreign currencies or having to pay for regular purchases in foreign currencies, another important aspect that may worry investors is whether financial statements of enterprises adequately reflect these exposures.

In principle, financial statements are to be prepared with the objective to give a true and fair view of the financial position and performance of the reporting entity. In order to achieve this objective, the impact on financial position and results due to exchange rate movement should be taken into account. In reality, this depends significantly on the requirements of the applicable financial reporting framework.

Under International Financial Reporting Standards (IFRS), monetary assets and liabilities in foreign currencies are translated into the functional currency using market exchange rates ruling on the reporting date and all resulting exchange gains or losses are recognised in profits or losses for the period.

Functional currencies are defined as currencies of the primary economic environment in which the reporting entity operates. IFRS also require that derivative financial instruments, including those linked to currency exchange rates, be measured at fair value and recognised on the balance sheet. The guidance of Vietnamese Accounting Standards and the Vietnamese Accounting System in respect of foreign currency transactions and balances contains some significant differences compared to IFRS as analysed below.

l The default currency for accounting and financial reporting purpose has been the dong and was not based on a functional currency concept. In a recent regulation issued by the Ministry of Finance (MoF), the functional currency concept appears to have been introduced as an option for enterprises that wish to use its functional currency for accounting and financial reporting purposes. However, this is not a compulsory requirement as is the case under IFRS because the use of the dong for accounting and financial reporting is considered to be acceptable in all situations.

l As discussed earlier, there are three different types of exchange rates that exist in Vietnam i.e. the average inter-bank exchange rate as announced by the State Bank, the exchange rate officially quoted by commercial banks (within the trading band provided by the State Bank) and the unofficial exchange rate.

The Vietnamese Accounting System requires enterprises to use the average inter-bank exchange rate for accounting and financial reporting purpose. In a volatile economic environment as we have seen recently there may be some significant gaps in the three types of exchange rates. If the IFRS requirement is to be applied to this situation, the exchange rate used should be the rate at which related transaction is settled and it is probably closer to exchange rate quoted by commercial banks than the average inter-bank exchange rate announced by the State Bank.

- Certain accounting rules in Vietnam allow the deferral of foreign exchange gains and losses as follows:

* Exchange differences relating to construction of fixed assets during pre-operating stage of an enterprise are deferred and amortised over a maximum period of five years from the date that the construction is completed and the assets are put into use (Vietnamese Accounting Standard 10 “The Effects of Changes in Foreign Exchange Rates”).

* On October 15, 2009 the MoF issued Circular No201/2009/TT-BTC providing guidance on recognition of foreign exchange differences. This circular contains certain guidance which is not consistent with Vietnamese Accounting Standard 10, “The Effects of Changes in Foreign Exchange Rates”.

This circular allows exchange differences arising from period end translation of current monetary assets and liabilities denominated in foreign currencies be recorded in the Foreign Exchange Difference Account in equity and reversed at the beginning of the following financial period and if the recognition of exchange differences arising from period end translation of non-current monetary assets and long-term liabilities denominated in foreign currencies result in operating loss for the reporting entity, a portion of these exchange differences may be deferred and amortised over a maximum period of five years.

This provision creates opportunities to distort financial results by deferring exchange losses to future periods. Under Vietnamese Accounting Standard 10 or IFRS such exchange differences are all recognised in profit or loss in the period that they are incurred.

- Under the Vietnamese Accounting Standards and system, there is no requirement to recognise derivative financial instruments on the balance sheet. In absence of such a requirement, the effect of derivative instruments linked to exchange rates, e.g. forward foreign exchange contracts, held by the reporting entity on its financial position and performance may not be properly reflected in the financial statements.

- Until recently, there is no requirement under Vietnamese Accounting Standards to disclose risks related to financial instruments in the financial statements. Movement in foreign exchange rates may create significant risks to entities with foreign exchange exposure. It has been a requirement under IFRS to disclose such risk and how the reporting entity manages it.

In November 2009, the MoF issued circular No 210/2009/TT-BTC providing guidance on application of International Accounting Standards on presentation and disclosure of financial instruments. However, this circular is only required to be applied from 2011. The application of this circular is considered to be challenging to Vietnamese entities.

In the long-term it is expected that Vietnamese Accounting Standards will be converged with IFRS so that the above differences are expected to disappear. However, for the time being it is important to understand the above differences in order to have a better understanding of the financial position and results of the reporting entity when reading and analysing financial statements prepared in accordance with Vietnamese Accounting Standards and the Vietnamese Accounting System.
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The views expressed by the author here do not necessary represent the views and
opinions of KPMG.

Tran Anh Quan - Director, Audit - Department of Professional Practice KPMG Limited (vir.com.vn)