Company A, an Indian company whose functional currency is ₹, enters into a contract to purchase machinery from an unrelated local supplier, company…

Based on the guidance above, the USD contract for purchase of machinery entered into by company A includes an embedded foreign currency derivative due to the following reasons: The host contract is a purchase contract (non-financial in nature) that is not classified as, or measured at FVTPL.The embedded foreign currency feature (requirement to settle the contract by payment of USD at a future date) meets the definition of a stand-alone derivative – it is akin to a USD-₹ forward contract maturing on 31 December 20X1.USD is not the functional currency of either of the substantial parties to the contract (i.e., neither company A nor company B).Machinery is not routinely denominated in USD in commercial transactions around the world. In this context, an item or a commodity may be considered ‘routinely denominated' in a particular currency only if such currency was used in a large majority of similar commercial transactions around the world. For example, transactions in crude oil are generally considered routinely denominated in USD. A transaction for acquiring machinery in this illustration would generally not qualify for this exemption.USD is not a commonly used currency for domestic commercial transactions in the economic environment in which either company A or B operate. This exemption generally applies when the business practice in a particular economic environment is to use a more stable or liquid foreign currency (such as the USD), rather than the local currency, for a majority of internal or cross-border transactions, or both. In the illustration above, companies A and B are companies operating in India and the purchase contract is an internal/domestic transaction. USD is not a commonly used currency for internal trade within this economic environment and therefore the contract would not qualify for this exemption. Accordingly, company A is required to separate the embedded foreign currency derivative from the host purchase contract and recognise it separately as a derivative. The separated embedded derivative is a forward contract entered into on 9 September 20X1, to exchange USD 10,00,000 for ₹ at the USD/₹ forward rate of 67.8 on 31 December 20X1. Since the forward exchange rate has been deemed to be the market rate on the date of the contract, the embedded forward contract has a fair value of zero on initial recognition. Subsequently, company A is required to measure this forward contract at its fair value, with changes in fair value recognised in the statement of profit and loss. The following is the accounting treatment at quarter-end and on settlement: Accounting treatment: Date Particulars Amount (₹) Amount (₹) 09-Sep-X1 On initial recognition of the forward contract (No accounting entry recognised since initial fair value of the forward contract is considered to be nil) Nil Nil 30-Sep-X1 Fair value change in forward contract Derivative asset (company B) [(67.8-67.5) x10,00,000] Dr. To Profit or loss 3,00,000 3,00,000 31-Dec-X1 Fair value change in forward contract Forward contract asset (company B) [{(67.8-67) x 10,00,000} - 3,00,000] Dr. To Profit or loss 5,00,000 5,00,000 31-Dec-X1 Recognition of machinery acquired and on settlement Property, plant and equipment (at forward rate) Dr. To Forward contract asset (company B) To Creditor (company B) / Bank 6,78,00,000 8,00,000 6,70,00,000