FINANCIAL REPORTING EXERCISE OF JUDGEMENT & ESTIMATION PROVISIONS & EVENTS AFTER THE REPORTING PERIOD Flashcards
What is a provision?
Liability of uncertain timing or amount
What are the 3 conditions for recognising a provision?
Present obligation arising from past event: Probable (more likely than not) outflow economic benefits to settle Reliable estimate of amount of obligation (all 3 conditions must be met)
How is a provision recorded?
- DEBIT Provision Expense
- CREDIT Provision
Does a provision always expense against profit?
When a provision is recognised it does not always expense against profit. It may form part of an asset.
Examples include:
- capitalising into an asset cost,
- the obligation for environmental cleanup when a new mine is opened
- an offshore oil rig is installed
When are reimbursements recognised?
- Recognised as separate asset, not as reduction of required provision
- When, and only when, it is virtually certain that reimbursement will be received if entity settles obligation (NB: ignore possible gains on sale of assets)
- Amount recognised should not exceed amount of provision.
When can you change or use a provision?
- Reviewed annually and adjusted to reflect current assessment of best estimate of required expenditure
- Can only be used for purpose originally set up for
- No longer needed (no ‘probable outflow’)? Reverse
Should a provision be recognised if a RESTRUCTURING is announced?
YES: If restructuring (closure/reorganisation) creates a constructive obligation
or
YES: If binding sale agreement exists for restructuring by sale of operation
What determines constructive obligation when a RESTRUCTURING is announced?
Constructive obligation regarding such restructuring arises when an entity: • Has a detailed formal plan identifying at least • the business or part of the business concerned • the principal locations affected • the location, function, and approximate number of employees who will be compensated for terminating their services • the expenditures that will be undertaken, and • when the plan will be implemented. • Has raised valid expectations in those affected that it will carry out the restructuring – by starting to implement the plan or – by announcing its main features to those who are affected by it.
What are the items that a provision should be recognised for?
Restructuring, warranties, customer refunds, onerous contracts, guarantee of another company’s debt.
What are the items that a provision should not be recognised for?
Major overhauls or repairs, future operating losses.
What’s the difference between a provision and a contingency?
Provision is a liability of uncertain timing or amount. Contingency is a condition that exists at the reporting period date involving uncertainty as to possible loss or gain to an entity. The uncertainty will ultimately be resolved when one or more future events occur, or fail to occur. Resolution of the uncertainty may confirm the incurrence of a loss or liability or the acquisition or impairment of an asset.
What is a contingent liability?
- A possible obligation arising from past event. Existence depends on whether some uncertain future event(s) occurs, not wholly within the control of the entity, OR
- A present obligation, arising from a past event, but – It is not probable that a transfer of economic benefits will be required to settle the obligation; OR
- Amount of obligation cannot be reliably measured (the present obligation does not satisfy the 3 criteria necessary to recognise a provision)
How is a contingent liability recognised?
– Contingent liabilities are NOT recognised in the financial statements – Details of the contingent liability is disclosed in a note to the financial statements, unless the possibility of an outflow of economic benefits is remote – Contingent liabilities must be reviewed regularly Where occurrence of a contingent liability becomes sufficiently probable, it becomes a provision and is then recognised as a liability
What are the events that require adjusting after the initial reporting date?
• Settlement of court case confirming present obligation at reporting date • Information confirming bankruptcy of customer who owed money at reporting date • Discovery of fraud or error • Changes to assumption of going concern for the entity
How are post-reporting date events acknowledged?
Adjusting events are recognised in the financial statements according to the nature of the transaction Non-adjusting events are not recognised in the financial statements. However, if material, disclosure of the nature of the event and estimate of its financial impact (if possible), by way of note,, is necessary as “… non-disclosure could influence the economic decisions that users make on the basis of the financial statements.”
