Explanatory Note to CVM Instruction 64

Ref.: CVM Instruction No. 64, of 05/19/87, which provides for supplementary financial statements in constant purchasing power currency.

INTRODUCTION

Financial statements are the best channel of communication between the investor and the company.
Through them flows, in a mature and healthy market, the majority of information that leads to investment decisions. The larger, more mature, and technical this market is, the greater the dependence on the quality and quantity of information contained in these statements. Hence the need for a very active participation and increasing responsibility on the part of those responsible for this information process.

For this reason, the Securities and Exchange Commission (CVM), as well as the administrations of the companies themselves, independent auditors, company accountants, capital market analysts, securities intermediaries, stock exchanges, and other participants in this process, have become increasingly concerned with the qualitative evolution of financial statements and increasingly committed to this improvement.

This role of financial statements is not a characteristic exclusive to the securities market.
Generally, the objective of Accounting is to provide useful and reliable information to the decision-making process by the user. Users, internal or external to the company, are mostly interested in accounting information to the extent that they serve prospective purposes. The analysis of accounting information, whether by administrators, controlling partners, or by minority investors, employees, creditors, customers, etc., is always aimed at knowing past performance as a way of helping to infer the future.

To meet this purpose, Accounting has basic pillars on which it rests, including to ensure homogeneity between evaluation and classification criteria by the most varied entities, and also to ensure objectivity in the data produced and conditions for quick understanding of the entity's net worth and financial position, the results obtained, the origins and uses of resources employed, changes in equity, etc. These pillars constitute the Fundamental Principles of Accounting, and among them stands out, in the new circumstances, as of special interest, the one regarding the Currency used in statements.

This Principle, referred to in CVM DELIBERATION NO. 29, of 02/05/1986, as Monetary Denominator, relates the usefulness of information contained in financial statements to its real aggregative capacity, which results from the use of the same monetary standard for the various components.

The Monetary Correction of Fixed Assets and Equity instituted by art. 185 of LAW NO. 6.404, of 12/15/1976, culminated an evolution of this matter initiated in balance sheets where its constituent elements are first homogenized in terms of the variation in the purchasing power of their respective currencies, so that they can then be summed for final measurement. Moreover, this property correction system has the extraordinary characteristic of producing a social period result measured in the currency of the date of the final balance sheet itself.

With respect specifically to the balance sheet, the legislator opted, probably for simplicity and because inflation rates were relatively low at the time (well below 50% annually), not to extend the principle completely, allowing the maintenance at original values of certain elements such as: inventories, customer advances, supplier advances, prepaid expenses, etc.

Regarding the income statement, it was also admitted that revenues and expenses during the period could be summed at their historical values, preferring to correct not each component, but adjust the sum. By including the balance of property monetary correction, it obtained the net result formed during the period, basically in the purchasing power currency of the end of the period.

The important thing is that our legislation has been meeting quite well the fundamental principle of accounting regarding the use of a single monetary denominator for information contained in the balance sheet and, with respect to the income statement, for the final profit or loss value.

On the other hand, as fluctuations in the purchasing power of our currency have become more pronounced, the incomplete adherence to the principle in its fullness has led us to the condition of loss of relevant information, inadequate analyses, improper comparisons, and, in many situations, possibly erroneous decisions.

Hence the need to adhere to the very objective and spirit of that Law, leading to the application of the Monetary Denominator to a greater amplitude, making it apply, in the income statement, to all its components, to each revenue and each expense.

This implies the more rigorous use of a constant purchasing power currency for the preparation of financial statements, with the explicit recording of losses suffered by the exposure of monetary assets to the effects of inflation, by gains produced by this same source on monetary liabilities, with the recognition of financial revenues only by what they exceed the devaluation rate of our currency, with the recording of financial expenses only by what also exceeds inflation, and by the aggregation of all revenues, expenses, losses, and gains for the determination of the final result, only after all these elements are translated into a single common monetary denominator.

With regard to the statement of sources and applications of resources, it has been presented with the explanation of modifications in the company's financial position, taking, however, as initial and final basis for net working capital, exclusively historical values. The position at the beginning of the period is compared to that at the end, in the currency of those dates, without any elimination of currency lag, and, in addition, each source and each application is also presented at its historical value. Hence the need to transform all these elements, placing them in a single monetary standard, the same being required for the statement of changes in equity and all other relevant information contained in the explanatory notes, auxiliary tables, and management report.

Methodologically, this objective is achieved by preparing the statements as if they had been originally maintained in this unique standard, which, in the Brazilian case, due to its proximity to the actual variation in the purchasing power of our currency and perhaps even more due to its widespread concept and ease of understanding, is reasonably well expressed by the OTN. In addition, the existence of the Auxiliary Ledger in OTN also facilitates the application of the methodology using this monetary standard.

It is absolutely not necessary to maintain accounting in OTN, or a parallel accounting, the use of conversion of original information, maintained on the basis of the system prescribed by LAW NO. 6.404/76, being sufficient. Several methodologies can be used to achieve this end, the one currently provided being one of the simplest by considering a single standard for each month.

The use of this methodology is not new in Brazil, having already several publicly-held companies published supplementary statements, based on full correction (TELEPAR - Telecomunicações do Paraná S.A., VASP - Viação Aérea São Paulo S.A., and Companhia Vale do Rio Doce can be cited), as well as other entities also using and publicly disclosing them (Duratex Foundation, for example), not to mention societies that have been using it for exclusively managerial purposes.

To allow for a period of adaptation and learning, this information, produced in a manner more consistent with the Fundamental Principles of Accounting, should be presented as supplementary information, parallel to the currently legally required ones, with some simplifications.

During the first fiscal year of adoption, statements related to the previous year and consolidated statements may be exempted from presentation in this more complete form.

It must be clear that these supplementary statements aim to provide better conditions for analysis, without producing fiscal effects or effects on the calculation of dividends and participations.

The analysis of the information from these statements will soon widely demonstrate not only its great usefulness, but also the possibility of improvements and refinements with the introduction of more sophisticated techniques that may be implemented later.

CONTENT OF THE INSTRUCTION

With the objective of facilitating better understanding, the present instruction can be divided into three parts. The first part deals with the methodology of full correction of financial statements of publicly-held companies. In this part, the basic limits for applying the method are defined, the standard to be used (OTN), and the treatment of the various items of each accounting statement.

The Instruction establishes that such statements shall be presented on a supplementary basis, keeping the form and content of the financial statements provided for in LAW NO. 6.404, of December 15, 1976.

For the supplementary balance sheet, for the purposes of the Instruction, the nature of monetary and non-monetary items is defined, and how they should be converted to OTN (National Treasury Obligations), by the parity existing at the close of the social period (monetary items); or based on the nominal value of the OTN in the month of its formation or acquisition (non-monetary items), with the Auxiliary Ledger being allowed for the quantification of OTNs of fixed assets and equity, including for interim dividends from the profit of the social period itself.

The deadlines established were based on the average of the suggestions presented, given the need to establish, at least in this implementation phase of the method, uniformity of criteria.

Also, the fixing of the discount rate - arithmetic mean of the variations of the OTN in the 3 (three) last months of the social period - seeks to maintain this uniformity of criterion, not representing, however, a real rate based on the discount rates normally practiced by various publicly-held companies.

In the adjustments of obligations linked to non-monetary items, the recording of the respective values as a reduction of the corresponding assets was considered, allowing, if direct reduction of each particular item of inventories is not viable, the use of a contra-account for global inventory, for proportional appropriation as inventories are written down. Similarly, in the case of obligations related to fixed assets, the portion of the reduction proportional to accumulated depreciation, amortization, or exhaustion, or to provisions for losses already accounted for with respect to these assets, must be considered in the result of each period.

In the case of immaterial values of these present value adjustments, or corrections of such non-monetary items, even in the form of inventories, the content of the Fundamental Principles of Accounting applies, specifically the Materiality Convention (CVM Deliberation No. 29, of February 05, 1986, item 6.2).

In the conversion of inventories to OTN, grouping by homogeneous items, of the same product family or raw materials, is allowed, in order to simplify the work that would be involved in converting item by item individually. There is the possibility, in this case, of using the "FIFO" (first in, first out) inventory valuation criterion, even if this is not the one adopted by the company.

For the purpose of the supplementary income statement, a monthly accrual basis is considered, to ensure the integrity of information on each of the components of the result. Exceptions to this rule are the equity method income, the provision for income tax, and provisions for losses or adjustments to market values, which may be appropriated quarterly, and participations in profit, unless paid in advance, will be appropriated only at the end of the social period.

In the case of inventories, whose turnover occurs within 90 (ninety) days, the portion corresponding to the correction of the previous month's inventories will be included in the cost of sales (products/merchandise) of each month; thus, even if part of the December inventory remains at the end of January, and should be written down at the corrected value only in February, it will, by the simplified form adopted in this Instruction, be written down in January in the amount equivalent to the portion of the correction. This fact already occurs in the correction based on the paragraphs of art. 185 of LAW NO. 6.404/76 and does not represent an additional error, but the maintenance of a simple scheme, even if imperfect, for fast-turnover inventories. In the case of inventories with a turnover period exceeding 90 (ninety) days, the amount of OTN determined in the controls or auxiliary calculations maintained by the company must be used.

The example attached to this Explanatory Note clarifies with greater clarity the aspects related to this item as well as the others of the company's result.

It is interesting to note that there are no correction balances or monetary variations in the supplementary statements. Indeed, in OTN accounting, there cannot be a balance of the correction of fixed assets and equity. And, in the case of receivables and payables, the concept of financial revenue and expense is different and much more logical: only the portion of nominal revenues that exceeds inflation is real financial revenue (and the same for expense).

The supplementary statements of sources and applications of resources and of changes in equity will be prepared within specific criteria contemplated in the Instruction, based on data from the supplementary balance sheet and the supplementary income statement. In the case of financial institutions, the income statement is exempted. In the case of financial institutions, the statement of sources and applications of resources is also exempted, as, in the way it has been prepared, it does not adequately achieve its objectives; studies are underway for its reformulation.

The explanatory notes to the financial statements must contain information on the criteria used in the preparation of the supplementary statements and any differences between the balance sheets and results (by legislation and supplementary). The management report should include information or comments based on the values presented in the supplementary statements, for correct understanding and analysis of the company's situation.

The second part of the Instruction addresses, as general provisions, aspects related to the uniformity of terminology and the form of presentation of the supplementary statements aiming at the complete understanding of the information contained therein by users. This part also deals with exemption from publication in specific situations; the opinion of independent auditors on the supplementary statements; and the option for publicly-held companies to make present value adjustments and corrections of non-monetary items not classified in fixed assets or equity, even if not obliged to do so, provided they adjust their opening supplementary balance sheet of the fiscal year in which they intend to adopt these procedures to the same criteria.

The Instruction emphasizes that the supplementary statements will not generate any rights or obligations other than those provided for in current legislation for the financial statements prepared in accordance with LAW NO. 6.404/76.

The Instruction assigns competence to the Superintendence of Accounting Standards of this Commission to resolve doubts regarding the preparation of the supplementary statements.

It is recommended to keep, for three years, the originals, microfilms, or in any other form, the documents, working papers, calculation memos, and other elements that served as the basis for the preparation of the supplementary statements, as a way to enable, at any time, consultation of the original data, facilitating analysis, not only by third parties (independent auditors, CVM, and others), but also by the company itself.

The application of the Instruction - for fiscal years ending on or after December 1, 1987

• aimed at the immediate implementation of the methodology in a simplified manner, allowing its gradual
  assimilation, in stages.

Indeed, the third part of the Instruction (transitional provisions) provides for the exemption, for the first fiscal year of its validity, of supplementary statements related to the previous year and allows the non-adoption of some procedures provided for therein. In addition, the Instruction makes it optional for publicly-held companies with securities traded exclusively in the over-the-counter market to apply the full correction methodology, in this first year of validity.

The exemption from publishing financial statements of the previous year, for comparison purposes, is due to the fact that, given the high level of inflation, the original values of the previous year are not comparable with those of the closing year. Thus, by publishing the supplementary statements - of the current year and the previous year - fully corrected, the objective of § 1 of art. 176 of LAW NO. 6.404/76 is met, i.e., the possibility of comparison between values, in order to facilitate the knowledge and analysis of the company's financial situation.

For a perfect understanding of the methodology now implemented, a complete example of full correction of financial statements is made available to interested parties, which is an integral part of this Explanatory Note. All interested parties may obtain it from the CVM.

Finally, it must be reiterated once again that the methodology now proposed is still quite simple and will, over time, require improvements and refinement.

Signed originally by
LUÍS OTÀVIO DA MOTTA VEIGA
President

EXAMPLE OF FULL CORRECTION OF FINANCIAL STATEMENTS, ATTACHED TO THE EXPLANATORY NOTE OF CVM INSTRUCTION NO. 64/87, OF MAY 19, 1987.

As a way to exemplify the Full Correction Methodology of Financial Statements, we offer a quite complete case in which, starting from balance sheets and monthly income statements, prepared in accordance with current legislation (Law No. 6.404/76), the end-of-year balance sheet and the income statement are obtained for the two semesters and for the whole year according to the desired objective.

Furthermore, based on additional information, the statement of sources and applications of resources is also prepared, which, along with the statement of changes in equity and the other two already mentioned, offers a much more adequate and complete view of the company's financial position and the changes that occurred during the period, with all values expressed in constant purchasing power cruzados.

The entire development of transforming values from cruzados to OTN is practically self-explanatory, especially if accompanied by the detailed steps of the Instruction (and the conversion of OTN to cruzados of any date is elementary), but even so, the most important steps are highlighted and explained immediately after the calculations.

The calculations for the preparation of the income statements are all done from only the data contained in the statements prepared in accordance with LAW NO. 6.404/76, using the hypothetical values mentioned of the OTN and with the following considerations and additional information:
a) the inventories in the balance sheets will not undergo monetary correction, as they have high turnover; b) the amounts receivable and payable will not be brought to present value, as the average collection and payment periods are not long and are considered as within the normal standards for the case; c) prepaid expenses will also not be corrected due to their immateriality; d) "cash and equivalents" are not financially invested and therefore do not produce nominal financial revenues; financial investments are recorded in a separate account and operations are carried out based on fixed rates; e) the provision for income tax began to suffer the incidence of monetary correction in April (by the variation from March); this monetary variation is contained in financial expenses, along with the variations of the OTN loan; f) the company corrected, in the second semester, the result obtained in the first, as it had been taxed in June; g) prepaid expenses are appropriated to administrative expenses; h) property monetary correction is done monthly; i) the company made an adjustment for a prior period in June, as a result of an error for an expense not appropriated to "accounts payable", and this account received the counter-entry of such adjustment, with the original error value amounting to Cz$ 3,000; j) the company received, in December, Cz$ 2,000 in dividends derived from an investment evaluated by the equity method. These dividends originated from profit determined by the investee before 06/30/X1; k) inflation ceases to exist in October of 19X1!

OBSERVATIONS REGARDING THE CALCULATIONS

SALES, COST OF SALES, BAD DEBT EXPENSE, AND NON-OPERATING RESULT

The values in cruzados were converted to the quantity of OTN by simply dividing by the OTN of each month; this procedure assumes, as well as for the others, a well-applied monthly accrual basis. In the case of the provision for doubtful credit collections, a non-monthly appropriation is tolerated.

COST OF GOODS SOLD

The accounting cost of merchandise sold in each month was, first, divided by the respective OTN. But, as by Law 6.404 there is no monetary correction of inventories, it is necessary to make an adjustment to eliminate from this COGS account the effects of this lack of correction. Therefore, since there are inventories at the end of the previous month, it is necessary that these be written down at the OTN value of that previous month. To make such an adjustment, it becomes necessary to add to the COGS of the month the difference between the quantity of OTN that was in inventory in the previous month and the quantity that remained in the same inventory at the start of the new month. In this way, although inventories are not corrected, COGS is determined as if they were.

For example, in December 19X0 there was Cz$ 50,000 in inventory; when it was written down in January 19X1, it should have been written down for Cz$ 55,000; since there was a 10% variation in the OTN from December/X0 to January X1.

Thus, we must add Cz$ 5,000 to the COGS of January.

Note that Cz$ 5,000 = 110.00 (Jan OTN) = 45.4545 OTNs, which is the value obtained in the calculations, just in a different way:
Cz$ 50,000 (Dec inv.): 100.00 (Dec OTN) = 500.0000 OTNs Cz$ 50,000: 110.00 (Jan OTN) = 45.5455 OTNs
45.4545 OTNs
It is logical that, if the COGS accounted for in January was Cz$ 40,000, it is because the entire December inventory was not sold in January. Therefore, a portion of these Cz$ 5,000 or 45.4545 OTNs should not be considered as COGS, but rather added to the ending inventory of January.
However, for simplification and due to the high turnover in this case, this technically recommendable adjustment is not being made.
The same procedure is carried out in subsequent months.

ADMINISTRATIVE EXPENSES
Since prepaid expenses also do not undergo correction, and in the example, they are appropriated to administrative expenses when incurred, we must, in addition to dividing by the month's OTN, also proceed with the same type of adjustment as was done in the case of inventories and COGS.
It is also evident that if a prepaid expense remains in assets for many months, its update each month should not be entirely charged off in the following month. Only the portion proportional to the expense appropriated each month should be charged off, and the remainder should be capitalized for future appropriation, as if it were a fixed asset to be depreciated gradually. However, due to the normal irrelevance of this item, this more refined treatment is waived. It is also evident that other non-monetary items, such as advances to suppliers (in assets) and advances from customers (in liabilities), can only have this simplified treatment if they have small values or are appropriated to the result very quickly.

DEPRECIATION
The best approach is to obtain its quantity directly from the Auxiliary Ledger in OTN, or otherwise proceed as in the case of net revenues: division by the OTN of each month.

EQUITY METHOD RESULT
In this case as well, the best approach is to use the RAZOT directly and first extract the quantity of OTN for this item.
Or reason as follows: In the 1st semester, since the equity method was accounted for only in June, that value of Cz$ 6,000 was in the currency of that month, as it was calculated by the difference between two values expressed in that currency (net assets of the investee and the corrected balance of the investment in the investor). Thus, it is sufficient to divide the Cz$ 6,000 by the OTN of June. In the 2nd semester, the first time the equity method was applied (September), the same reasoning is valid since the entire June balance was corrected, including the adjustment for the equity method of the 1st semester. But, from the second time onwards when the equity method is recorded, we have that the previously made adjustment is not corrected. With this, the accumulated equity method in cruzados is at the date this adjustment is recorded, but that of the month or quarter is not. Thus, the September equity method is done:
Cz$ 4,000 : 270 = 14.8148 OTNs and the December one:
Cz$ 9,000 (accumulated) : 325 = 27.6923 ( - ) the previously registered one in September by 14.8148 = 12.8775 OTNs.
Since in this example the concern is with the global value of the fiscal year, and not by month or quarter, there is the possibility of simplification by dividing all the Cz$ 9,000 of the second semester by the December OTN to arrive at the equity method revenue of this second semester, to be added to that of the first and thus obtain that of the year. In the case of a company that is not taxed in June, the situation is simpler: it is sufficient to divide the entire equity method result of the fiscal year by the OTN of the month of closing of that fiscal year. Or, as already mentioned, the most practical effective method is to use directly the quantities in OTN registered in the Auxiliary Ledger in OTN as equity method result.

DIVIDENDS RECEIVED
Dividends received from investments valued at cost can be converted to OTN directly by dividing the value in cruzados by the OTN of the month in which they are accounted for.
In the case of dividends originating from investments valued by the equity method, there is a need for complementary treatment. In commercial bookkeeping under LAW 6.404/76, besides the record of the receipt of the dividend, there is the need to reverse the monetary correction effected in the year on the portion of the permanent investment transformed into a dividend. Thus, as in the example the correction is monthly and there is information that the dividend originates from profit ascertained by the investee before 30.06.X1, it is necessary to reverse, in commercial bookkeeping, the value of the correction effected on the Cz$ 2,000 of dividends after the balance sheet of 30.06.X1: Cz$ 2,000 (325/190 - 1) = Cz$ 1,421.

In the financial statements with full correction, only the language changes. If the dividend of Cz$ 2,000, received in December, had been accounted for, on 30.06.X1, as a monetary asset ("Dividends Receivable"), we would have to ascertain the effect of inflation due to the delay in receipt. If received on 30.06.X1, the Cz$ 2,000 would correspond to 10.5263 OTNs but now in December they are worth only 6.1538 OTNs. Thus, they lost 4.3725 OTNs to be computed in the item "Gains and Losses on Monetary Items" ahead. Therefore, if the dividend had been accounted for in current assets already in June, there would be no need for this complementary adjustment.

FINANCIAL INCOME
For this item, it is necessary, first, to divide the income of each month by the respective OTN. The simplest is to gather all nominal financial incomes: fixed-rate, by OTN variation, by exchange variation, interest, etc.
Next, it is necessary to verify how much this income actually corresponds to a value higher than the effect of inflation on the assets that generated these incomes. For this calculation, the methodology now used is the simplest possible: it verifies how many OTNs corresponded to the sum of the balances of the accounts that generated these incomes, but balances referring to the end of the month prior to that in which the incomes were appropriated. Afterward, it verifies how many OTNs those balances were reduced by the passage to the new OTN, before the appropriation of nominal incomes. The difference is the "loss" suffered by the accounts that generated the nominal financial incomes, to be thrown against these incomes in order to obtain the true value gained beyond the OTN variation. In January, the nominal incomes of that month were divided by the OTN of January, yielding an income of 50.000 OTNs. Next, it was verified that the only account in the case that generated these incomes lost, in the passage from December to January, 45.4545 OTNs. Thus, of the 50.000 OTNs of nominal income, only the amount of 4.5455 OTNs is real financial income (above inflation measured by OTN). In the month of February, the same is done and it is verified that the nominal income of that month was not sufficient to compensate for the effect of the OTN variation from January to February on the asset balance (which generated these incomes), existing at the end of January. There was a "negative real financial income" of 0.2273 OTNs. Proceeding thus until the end, it is found that in 19X1, the real financial income corresponded to 24.4966 OTNs which, at the value of the December OTN of 19X1 (Cz$ 325.00), corresponds to Cz$ 7,961, and not to the apparent and misleading nominal income of Cz$ 110,900!

FINANCIAL EXPENSES
The same reasoning of incomes applies to financial expenses. In an OTN accounting, only financial expense is real what a debt grows beyond the variation of the OTN itself. In economic terms this is also true since, if on one hand receiving the correction of a value lent to third parties is receiving back a piece of what was lent before (and not gaining or receiving a profit or a true revenue), the same occurs with the opposite side. Paying the correction of a debt is amortizing part of it. And debt amortization is not expense! To calculate the value of financial expense, that is, that which exceeds mere debt correction, the same methodology is used: all nominal financial expenses are summed, such as: interest, exchange variations, OTN variations, fixed corrections, discounts, etc. This sum is divided by the OTN of the month and one has the false financial expense in OTN. To arrive at its correct number, one now sums all the accounts that generated those nominal financial expenses, such as: fixed-rate loans, OTN or foreign currency financing, discounted bills, income tax payable (if subject to correction), etc. The balances of these accounts relative to the end of the previous month are always taken. This sum is divided by the OTNs of the previous month and the current month. The difference between these two quantities of OTN is subtracted from the nominal financial expense in OTN to have how much of the nominal expenses effectively exceeded the effect of inflation. One thus arrives at the real financial expense of each month in quantity of OTN. For example, in the month of May there were nominal financial expenses of Cz$ 33,751, including therein the correction of income tax payable, the exchange variation, the interest, etc. This value corresponds to 198.5353 OTNs in the month. But these expenses were generated by 3 accounts: OTN loan (current liability), foreign currency loans (long-term) and provision for income tax (current). The sum of these accounts at the end of April totaled Cz$ 234,385, equivalent, in April, to 1.562.5667 OTNs. Upon passing to the first day of May, that value, before any update, had represented 1.378.7353 OTNs. Subtracting the difference between these two quantities, which reaches 183.8314 OTNs, from those nominal expenses that exceeded the OTN variation, was 14.7039 OTNs. That is, of the nominal increase of 198.5353 OTNs, the first 182.8314 were only to compensate for inflation and did not signify an increase in real debts, thus did not represent genuine financial expense. If the accounting were done directly in OTN, only the 14.7039 OTNs would need to be effectively accounted for to register the entire nominal effect of the expenses that, in cruzados, appear by the unreal value of Cz$ 33,751. The company can and should, for managerial purposes, calculate these effects account by account for analysis of the real cost of each one. For publication purposes, however, an aggregated form such as this is sufficient. Note
that, in the months of November and December of this year 19X1, it is sufficient to divide the expenses by the respective OTN already since, in the absence of inflation, any nominal financial expense is also real by equal amount. But the nominal values in cruzados change enormously.

GAINS AND LOSSES ON MONETARY ITEMS THAT DO NOT PRODUCE NOMINAL FINANCIAL INCOME OR EXPENSES Asset and liability accounts of a monetary nature that generate nominal financial income and expenses will have already considered the effect of inflation on their balances in the calculation of these incomes and expenses in real terms. Remaining are the other monetary accounts that do not produce any nominal financial income or expense explicitly stated in commercial bookkeeping. All of them, with the exception of the account for provision for income tax on the profit of the ongoing fiscal year, will be treated in this topic. It is necessary to calculate how much the company is losing in active monetary accounts and gaining in passive ones due to inflation. Thus, if the balance of "cash" does not produce nominal financial income, it only loses when passing from one OTN to another. The balance of Cz$ 10,000 in December 19X0 only loses 9.0909 OTNs when passing from the OTN of Cz$ 100.00 of December/X0 to that of Cz$ 110.00 of January/X1. The cash contained the equivalent to 100.0000 OTNs and comes to count only 90.9091. This calculation, done month by month, provides the stupendous managerial information of how much the non-remunerated balance of this account cost throughout the whole year. The same is done with the other accounts. Losses on customers can be calculated on the balance already net of the provision for doubtful debts (not of discounted bills which is a monetary account that produces financial expenses). These losses on customers can now, managerially, be compared with the overprice contained in sales as a consequence of the term given for receipt in order for the company to know if it is managing to recover, in price, the inflationary effect on bills receivable. At least for now, the hypothesis of placing losses in this account as diminutives of net sales, or gains in suppliers as rectifiers of the cost of goods sold, or still gains in accounts payable with diminutors of the expenses that generated this debt, is not being considered. In passive accounts, gains arise, since they are non-correctable accounts that contain smaller quantities of OTN in each month change. Note that, in this example, the provision for income tax left this group in April because the hypothesis was taken that this account (tax on the profit of the previous final period) began to be corrected in this month when then it changed to the category of monetary passive account that generates nominal financial expense. The net balance of all these losses and these gains goes to the statement of fully corrected result, as operational result, with the discrimination of the main items to be done in explanatory note or auxiliary table. It should be remembered that to this item should be aggregated the loss resulting from the dividend received from investment valued by equity and more the commented below.

PRIOR PERIOD ADJUSTMENTS
The example supposes that in June the company discovered an error in the balance sheet of December 19X0, when it failed to record an expense whose counterpart should have been "Accounts Payable".
The company accounts for the adjustment of Cz$ 3,000 in Accumulated Profits or Losses and reverses the correction improperly effected on this value (it is supposed that the correction has already been made until June inclusive).
In the fully corrected statements, it is done: In Accumulated Profits or Losses the adjustment is by the value Cz$ 3,000 at the OTN of closing of the previous fiscal year, regardless of the month in which the error was committed.
This is because, if we calculate the adjustment by the OTN of August of X0, for example (supposing that this would be the correct month by competence), we would have a larger quantity of OTNs, but we would have to appropriate also as Prior Period Adjustment the gain not calculated in the previous year on the same Cz$ 3,000 in the balance of Accounts Payable of that fiscal year. The net balance would be the same quantity in OTNs as the division of the Cz$ 3,000 by the OTN of Cz$ 100.00 of December 19X0. With this, the adjustment will be 30.000 OTNs. After this, it is necessary to calculate how much was left uncomputed as gain in "Accounts Payable" during 19X1. For this it is sufficient to compare those 30.000 OTNs with 15.7895 OTNs which is the fruit of the division of the Cz$ 3,000 by the OTN of June 19X1. The gain of 14.2105 OTNS must be added to the balance of "Gains and Losses on Monetary Items That Do Not Generate Nominal Financial Expenses and Revenues". (If the adjustment were in inventories, instead of this monetary gain adjustment we would have adjustment in the cost of goods sold).

INCOME TAX
The simplest criterion for this item is to divide the tax of the first semester by the OTN of June, and that of the second semester by that of December. For companies not taxed in June, it is sufficient to divide the Tax of the year by the OTN of December.
For those who wish to calculate the tax month by month, one must remember that the provision on the profit in ascertainment does not undergo correction. Thus, from the 2nd month, one must consider the gain on the accumulated provision, up to the previous month, as a rectification of the nominal expense. This is because the tax of January is on the profit of January which is accounted for in the currency of that month. Already the profit of February is not the correct result of that month due to the non-correction of the profit ascertained in January. But the accumulated profit up to February is correct because all the net assets of the previous December will have been corrected. Since the Income Tax needs to be correct in the accumulated, that of February is recorded, in commercial bookkeeping, by the difference between the value ascertained on the accumulated profit of the bimonth and that already registered in January. But, when we transform the January one into OTNs, we then become unable to divide the tax in cruzados of February by the OTN of February purely and simply. It is necessary to effect that compensation with the gain generated in the month of February by the balance provisioned up to January. Which is the same as dividing the tax on the accumulated profit up to February by the OTN of February and therefrom deducting the expense, in OTN, already appropriated previously.

THE STATEMENT OF RESULT
The example shows the result in 3 columns; the first, in quantity of OTNs, and unnecessary for publication, only being presented for evidence and calculation; the second is the first multiplied by the OTN of December of 19X1, and is the complementary statement of result with full correction; and in the third one has that of the commercial bookkeeping under LAW 6.404/76 as already shown in the tables of monthly result statements. Attention is called to the following main points obtained from the comparison between the fully corrected results and "legal" ones:
a) the net profits are equal! This is due to the non-necessity of correcting inventories and non-substitution of "Customers" and "Suppliers" by their present values with the discount of their respective portfolios; b) the profit fell from 42% to 35% of net revenue, due to the adjustment in COGS. This new percentage is much more correct, since that one compares sales of a month with historical cost of inventories purchased previously, without any update; c) the net revenue and all components of the result are, now yes, in a single currency, that of December of 19X1; d) the equity method is in December/X1 currency, while in the "legal" statement it appears by the sum of two currencies: June and December; e) the financial expenses, which in the "legal" are 22.8% of net sales, fell to a much smaller real value, which is "only" 2.4% of that base. Of the Cz$ 373,481 of nominal expenses and various currencies, one has, after elimination of what this amount has of mere inflationary effect, the value of Cz$ 60,132, in December currency. This is the real financial expense that affected the company's liabilities and net assets in the year; f) the financial incomes that seemed to represent 6.8% of net sales or double the net profit, are in real terms, only 0.3% of net revenues only 14.3% of net profit. The rest is mere illusion in terms of profit!; g) the net losses on monetary items do not appear in the "legal" column but consumed 7.0% of net revenue. This is the reflection of inflation causing greater losses in "Customers" and "Cash" than gains in "Suppliers" and other monetary liabilities that did not produce financial expenses; h) the accounts of "monetary correction" of net assets and of "correction of the 1st semester profit" of the "legal" column disappear in full correction. There is no monetary correction in an OTN accounting! Note how there would be distortion in the year's profit if the reversal of the 1st semester profit correction, accounted for in the result of the 2nd semester in the column by the law in force, were not made. Finally, note that, if the monetary correction account in the "legal" statement is classified as non-operational, one has a distorted operational profit. Indeed, in the example there is an "error": the correction of the 1st semester profit should also be classified as operational; thus the "legal" operational result would be in Cz$ 66,197, very close to the much more correct value demonstrated in the column with full correction (Cz$ 66,628). (Monetary correction must always be classified as operational. Indeed, the disappearance of monetary correction and the maintenance of the same net profit mean that the correction balance is absolutely correct, in the "legal" statement, to adjust the profit to the end-of-fiscal-year currency. It represents in its essence, not the correction of permanent assets and net assets, in the result, but rather the adjustment of sales, cost of goods sold and all other revenues and expenses to
their real value and to the currency of the closing of the fiscal year! What was done in full correction was its "explosion" and allocation to the accounts of the direct effect (its "non-operational" part is only that necessary to adjust the non-operational result of income tax and participations to the end-of-fiscal-year currency); i) the non-operational profit also appears duly corrected to December/X1 currency; j) the income tax of this company taxed in June appears in the "legal" column by the simple sum of the taxes of June (the June currency) and December (the December currency) in full correction the June value is updated to December currency.

THE STATEMENT OF CHANGES IN NET ASSETS
In the "legal" statement, when inflation is high, the greater value corresponds to "correction". In the full correction one, this item does not appear, it does not exist. The initial net assets is already in the currency of the end of the fiscal year in question, as well as prior period adjustments, capital increases and other mutations. (The capital increase, as seen from the monthly balance sheets, occurred in July/X1).

THE STATEMENT OF SOURCES AND APPLICATIONS OF RESOURCES The "legal" DOAR is made at absolutely historical values. It compares the net working capital (NWC) of one year with that of another at absolutely original values, disregarding the effect of inflation.
The NWC passed from December/X0 to December/X1 from Cz$ 92,000 to Cz$ 293,409, and the "DOAR" explains the nominal variation of Cz$ 201,409.
The accounting "legal" result of Cz$ 55,497 is eliminated of everything it contains of adjustment by inflation that has altered the result but not the NWC (monetary correction and variations of long-term debts), as well as other revenues and expenses that also have not modified the NWC, only that all at nominal values. This NWC value produced by the operations themselves is summed to the product

of sale of capital etc., all at nominal value as if the different cruzados of the year were worth the same thing. Applications with this defect are also summed up: all at nominal value.

In the DOAR (Statement of Sources and Applications of Resources) using full correction, the same methodology is used: values from the result that do not alter the CCL are eliminated, such as depreciation, equity method, and others, but all at their real values (it can be by amounts in OTNs or by values in cruzados of December/X1). Only one item deserves mention: when it comes to charges on long-term debt, one must consider only the amount of variations in these debts that differed from inflation. In the example in question, there is a nominal exchange variation of Cz$ 227,500, but if we calculate how much of this exceeded inflation, we arrive at Cz$ 3,646; for this, it is sufficient to break down the gain calculated on this debt, which, in the example in question, is within the gains calculated in the computation of financial expenses. In quantity of OTNs, we have:

Initial Debt = Cz$ 90,000 : 100 = 900.0000
Increase due to new debt = Cz$ 12,500 : 120 = 104.1667 Increase due to exchange variation = Cz$ 227,500 ?
Reduction due to transfer to current assets - - Initial Balance Cz$ 330,000.00 : 325 = 1,015.3846 OTNs

Therefore, by difference, the increase in exchange variations exceeding inflation was 1,015.3846 - (900.000 + 104.1667) = 11.2179 OTNs or, in December/X1, equal to 11.2179 OTNs x 325 = Cz$ 3,646.

The other values for sale of investments, capital increases, new investments, etc., are all quantified in OTNs and, in cruzados, placed at the currency of December/X1 in the DOAR using full correction.

Dividends derived from investments evaluated by the equity method are at the value of the right to receive them in June/X1, while the loss suffered of Cz$ 1,421 for delay in receipt is computed in net profit and is not adjusted because this loss represents a real reduction in CCL.

Let us look at the following important points in the comparison between the two statements:
a) where there was a nominal increase of Cz$ 201,409, there was, in reality, a decrease in CCL of Cz$ 5,591, since the current one is smaller than that at the beginning of the year in corrected currency; b) the CCL produced by operations is, nominally, Cz$ 227,405, but most of this value is the result of inflation alone, and not an increase in real CCL; this is only Cz$ 80,327 in real terms (it is like considering the correction of a financial application as an effective increase in CCL when this correction is only the maintenance of the previous CCL, in real terms); c) of the total CCL obtained, apparently 3/4 came from the operations themselves, when in reality, only 1/4 comes from this source; d) the nominal immobilization of Cz$ 140,000 apparently is half of the CCL generated by operations; but, in real terms, 2.5 times the CCL produced by the company itself in its nominal operations was immobilized; e) the capital increase and new long-term debt apparently represented 17% of the total CCL obtained; but these two items were, in fact, responsible for 46% of the total CCL achieved.

EVOLUTION OF PROFIT THROUGHOUT THE YEAR

The profit of January, using full correction, is equal to the "legal" one.

The profit of February is not, it is 13.1818 OTNs, in full correction, equivalent, to the OTN of February from Cz$ 120.00 to Cz$ 1,582, and not to Cz$ 1,800 indicated in the "legal" result statement. This is due to the fact that the result of January is not corrected in February. But the accumulates are equal.

Comparing month by month, we see how full correction shows the true results, while there can be large errors in the "legal" due to the non-correction of the result of the year itself. But this defect does not alter the accumulated result of the year. Note how sometimes there is a loss instead of profit, and how the differences change significantly in percentage terms.

Only equal when it is the 1st month of the year (and of the 2nd semester when there is taxation in June) or when there is no inflation (November and December).

FINAL CONSIDERATIONS

It is important to note that all accounts outside the permanent and shareholders' equity suffer due to inflation; cash generates losses, financial applications have their losses reduced from nominal financial revenues, stocks cause adjustments in the cost of goods sold, prepaid expenses cause adjustments in the expenses to which they are charged, accounts payable without nominal financial charges generate gains, etc. Therefore, it is necessary to perform an analysis to verify all these effects in all these accounts.

Effects of situations where it is necessary to correct stocks, or to bring rights and obligations to present value, or where there are advances from customers or even advances to suppliers will be treated in examples to be disclosed subsequently.

When there is no need to make adjustments to these accounts for the balance sheets (and the balance sheets are then equal both by the application of the correction instituted by Art. 185 of the Corporation Law and by full correction), it is found that net profits are also equal in both systems. But large differences arise in the components of these results and, mainly, sometimes, in the statements of sources and applications of resources.