L6a | Provisions, Contingent Liabilities and Contingent Assets

Question 1

What are the 2 types of present obligations?

Answer 1

Legal & Constructive

Question 2

What are legal obligations?

Answer 2

• a contract
• legislation
• or other operation of law

Question 3

What are constructive obligations?

Answer 3

• an established pattern of past practice, published policies, specific current statemnt inficating to other parties, it will accept certain responsibilities
• entity creates expectation on the part of those other parties that it will discharge those reponsibilites
• if more likely that there is no present obligation at end of reporting period - recognise as contingent liability

contingent liability = highly unlikey but a possibility => no action/provision

Question 4

What do we do for legal and constructive obligations?

Answer 4

Create a provision

Question 5

When do we recognise a provision?

Answer 5

if it is probable that an outflow of economic benefits will be required to settle the obligation

Question 6

What is a requirement for a provision to be recognised?

Answer 6

• if a reliable estimate can be made of the obligation
• if the obligation in question exists independently of entity’s future actions

Question 7

If the provision relates to a large population of items, what method of estimation is used?

Answer 7

estimated value

Question 8

If the provision relates to a one or a small population of items, what method of estimation is used?

Answer 8

most ‘likely outcome’

Question 9

What happens if no reliable estimate can be made?

Answer 9

liability cannot be recognised as a provision - recognise as a contingent liability

Question 10

For each class of provision, what needs to be disclosed?

Answer 10

• a brief description of the nature of the obligation, and the expected timing of any resulting transfers of economic benefits
• numbers to be disclosed
• carrying amount at beginning and end of period
• additional provisions made in the period, including increases in existing provisions
• amounts used during the period
• amounts reversed during the period

Question 11

What is an onerous contract?

Answer 11

a contract “in which the unavoiable costs of meeting the obligations under the contract exceed the economic benefits to be received under it”

Question 12

How are onerous contracts recognised?

Answer 12

Recognise present obligation as a result of contract

Question 13

When are restructuring costs recognised?

Answer 13

Only if general recognition criteria set out in IAS 37 is satisfied

Question 14

When does a constructive obligation to restructure arise?

Answer 14

Only when an entity has:
* a detailed formal plan for the restructuring
* Has raised a valid expectation in those affected that it will carry out the restructuring by starting to implement that plan or announcing its main features to all those affected by it
* If restructuring involves a sale of an operation - no obligation for that sale arises until there is a binding sale agreement

Question 15

When is a contingent liability not recognised?

Answer 15

• the amount of the obligation cannot be measured with sufficient reliability - or -
• it is not probable that an outflow of economic benefits will be required to settle the obligation - or -
• a possible obligation that arises from past events and whose existence will be confirmed only by the occurence or non-occurence of one or more uncertain future events not wholly within the control of the entity

Question 16

How is a contingent liability recognised?

Answer 16

Not recognised in the statement of financial position
Disclosed instead, as follows: a brief description of its nature; an estimate of its financial effect; an indication of the uncertainties relating to the amount or timing of outflow; the possibility of any reimbursement

Question 17

What is a contingent asset?

Answer 17

a possible asset that arises from past events and whose existence will be confirmed only the occurence or non-occurence of one or more uncertain future events not wholly within the control of the entity

Question 18

What is an example of a contingent asset?

Answer 18

warranties (when the company may receive benefits)

Question 19

Flow Charts of creating a provision, disclosing a contingent liability and doing nothing…

Answer 19