IAS 37

Provisions, Contingent Liabilities and

Contingent Assets

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Content
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➢ IAS 37
➢ Scope
➢ Provisions
➢ Other provision
➢ Contingent liability – contingent asset
➢ Disclosures
 IAS 37
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To prescribe the criteria for recognition, measurement and

disclosure of

Provisions Contingent liabilities Contingent assets

issued in September 1998

1 July 1999

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Scope
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• Applies to all enterprises in accounting for provisions, contingent

liabilities and contingent assets except those:
– resulting from financial instruments carried at fair value (IAS
39)
– resulting from executorial contracts, unless they are onerous
– arising in insurance enterprises from insurance contracts
(IFRS 4)
– covered by another IAS
1. Provisions Definitions
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Provisions

= liability of uncertain timing or amount

= present obligation from past event outflow of benefits

legal obligation creates Constructive obligation

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Legal obligation: An obligation that derives from:

(a) a contract (through its explicit or implicit terms);
(b) legislation; or
(c) other operation of law.

A constructive obligation: derives from an entity’s actions

where:
(a) past practice, published policies or a sufficiently specific
current
statement, ➔ the entity will accept certain responsibilities;
(b) as a result, the entity has created a valid expectation on the
part of those other parties that it will discharge those
responsibilities.
 Provisions and other liabilities
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uncertainty about the timing or amount of the future

settlement

Provisions other liabilities

Warranty,…
>< (trade payables and accruals)
✓ Estimate ✓ Certain timing or amount (agreed)
✓ Uncertain timing or amount ✓ Sometimes, can estimate, , the
uncertainty is generally much less
than for provisions.

EX: trade payables are liabilities to pay for goods or services that have been received
and have been invoiced or agreed with the supplier;

EX: accruals are liabilities to pay for goods or services that have been received
but have not been paid, invoiced or agreed with the supplier, including amounts
due to employees (for example, amounts relating to accrued vacation pay).
Although it is sometimes necessary to estimate the amount or timing of
accruals, the uncertainty is generally much less than for provisions.
 Provisions and other liabilities- EX
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Obligations Provision Other Comments

liabilities
Warranties given for goods or
services sold
Refunds given for goods sold
Discounts given for customer
loyalty schemes, such as frequent
flyer programmes
Payments for damages
connected with legal cases that
are probable.
Dilapidations payable at the end
of an operating lease
Interest payments
 Provisions and other liabilities- EX
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Obligations Provision Other Comments
liabilities
Holiday pay earned by employees

Property rentals
Ordinary dividend declared before
year-end
 Distinguishing provisions from other liabilities
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Typical provisions are for:

• Warranty
• Restoration
• Restructuring
• Onerous contracts.
• Accruals and employee benefits are not
provisions under IAS 37 (IAS 19).
 When to recognize a provision
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When to recognize a provision?

Present obligation Probable outflow Reliable estimate

a past event is deemed to give probability occur is greater than
rise to a present obligation the probability that it will not
occur

Are all conditions met?

Provision
Contingent liability or nothing
 AVOID the provision
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When to recognize a provision?

Can you avoid the obligation by your future action?

Do not recognize a Recognize a provision

provision

EX

Training of personnel Warranty repairs

How to measure a provision
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How to measure a provision?

Best estimate of expenditure to settle obligation

JUDGEMENT

Expected value Individual most likely outcome

-Risk uncertainties - Future events

-Present value (if material) - No gains from disposals of asset

Provisions shall be reviewed at the end of each reporting period

Account for a provision
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Debit Credit
Recognition of provision:
Unwinding the discount
Use of provision:
Reimbursements:
EX 1
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An entity sells goods with a warranty under which customers are covered for the
cost of repairs of any manufacturing defects that become apparent within the
first six months after purchase. If minor defects were detected in all products
sold, repair costs of 1 million would result. If major defects were detected in all
products sold, repair costs of 4 million would result. The entity’s past experience
and future expectations indicate that, for the coming year, 75 per cent of the
goods sold will have no defects, 20 per cent of the goods sold will have minor
defects and 5 per cent of the goods sold will have major defects. In accordance
with paragraph 24, an entity assesses the probability of an outflow for the
warranty obligations as a whole. The expected value of the cost of repairs is:
EX 2
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An entity sells goods with a warranty under which customers are covered for the
cost of repairs of any manufacturing defects that become apparent within the first 3
years after purchase. If minor defects were detected in all products sold, repair
costs of 1 million would result. If major defects were detected in all
products sold, repair costs of 4 million would result. The entity’s past experience
and future expectations indicate that, for the coming year, 75 per cent of the goods
sold will have no defects, 20 per cent of the goods sold will have minor defects and
5 per cent of the goods sold will have major defects. The second year, 50% of the
goods sold will have no defects, 40% of the goods sold will have minor defects and
10% of the goods sold will have major defects. The third year, 30% of the goods
sold will have no defects, 50% of the goods sold will have minor defects and 20%
of the goods sold will have major defects. The discount rate is: 10%. Use of
provision in the first year is: 0,4 million.
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2. Other provision
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Other Provision

Future operating loss Onerous contracts Restructuring

Program planned
and controlled by
Unavoidable cots > economic management that
LIABILITY benefits changes scope or
manner of business
EX: Sale or termination of
line of business, Relocation
of business activities,
No provision a Provision Reorganisation
Lower of Net cost of
Impairment of asset ? Detail plan Valaid
fulfilling and Penalty
Expectation
impairment losses on assets
dedicated to the onerous
Obligation (customers,
contract?
suppliers and
employees)
 Restructuring provision
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A restructuring is: [IAS 37.70]

➢ sale or termination of a line of business

➢ closure of business locations
➢ changes in management structure
➢ fundamental reorganisations.
 Restructuring provision
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General recognition criteria of provision met:

✓ business or part of business
concerned
✓ Principal locations affected
Detailed formal plan identifying ✓ Location, function and
approximate number of employees
to be compensated
✓ Expenditures to be incurred
and ✓ When the plan will be implement

created by starting to
Valid expectation implement or announcing
plan to those affected
 EX - Reccognise a restructuring provision
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Restructuring provisions should be recognised as follows: [IAS 37.72]

•Sale of operation: recognise a provision only after a binding sale

agreement [IAS 37.78]
• Closure or reorganisation: recognise a provision only after a detailed
formal plan is adopted and has started being implemented, or announced to
those affected. A board decision of itself is insufficient.
• Future operating losses: provisions are not recognised for future
operating losses, even in a restructuring
• Restructuring provision on acquisition: recognise a provision only if
there is an obligation at acquisition date [IFRS 3.11]
 Restructuring provision
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Restructuring costs – what to provide for?

Include if: Exclude if:

-Direct costs
-Unavoidable, and
-Not associated with
Ongoing activities
-Retaining or relocating
continuing staff
-Marketing, or
-Investment in new
system and distribution
network
 Example
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• P Ltd manufactures plastic products and has various plants across the
country
•P Ltd decides to shut down a plant as a result of poor performance
•P Ltd has decided to reallocate (Y)staff to the nearest plant (CU 60),
but some staff will be retrenched (CU 40) (N)
•Manufacturing assets will be moved to other plants (CU 150) (Y)
 Example
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• Other assets will be sold (loss on sale = CU 80)

•The lease for the premises will be terminated upon payment of a
penalty (CU 125)
•P Ltd incurred consulting costs for the restructuring (CU 25)
•P. Ltd has communicated the restructuring to the employees
(Construction obligation)

What amount do we recognise as a restructuring provision?

 3. Contingent liability – contingent asset
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Contingencies

Contingencies liabilities Contingencies assets

Possible obligation Present obligation Possible asset

be confirmed by future (do not meet the
events, not wholly recognition criteria) +
within the control of Inflow is probable
the entity
Outflow possible (not probable )
or not reliably measurable

Not recognized liabillty or asset,

DISCLOSURE REQUIRED
 Note contingent asset
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Contingent assets are not recognised in financial statements

However, when the realisation of income is virtually certain, then the

related asset is not a contingent asset and its recognition is appropriate.
 provisions and contingent
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Uncertain in timing or amount

Provisions Contingent

✓ from past event ✓ arises from past events,

✓ Recognised a liability confirmed only by
uncertain future events,
entity doesn’t control
✓ not recognized liability or
asset.
✓ Disclosure.
 IAS 37- Provisions and contingencies
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Liability (CF)
Provision Contingent
Definition: liability
Definition:
✓ Present obligation ✓ Liability Definition:
✓Past event ✓Uncertain timing or amount ✓ Possible obligation
✓Outflow of economic benefits Or
Recognition:
✓Present obligation
Recognition: ✓ Present obligation as a
But
✓ Outflow probable result of a past event
✓Outflow probable
✓ Reliably measurable ✓Legal
(<50%)
✓Constructive
And/or
✓Outflow probable (>50%)
It met, recognise in ✓Amount reliable
✓Reliable estimate of
statement of financial estimate
amount
position
It as above, No recognise in
It met, recognise in
statement of financial
statement of financial
position
position
Instead, disclosure provided.
4. Disclosures
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For each class of the provision, an entity shall disclose:

➢ the carrying amount at the beginning and the end of the
period
➢ additional provisions made in the period, including
increases to existing provision
➢ amounts utilized during the period
➢ unused amounts reversed during the period
➢ the description of the nature of the obligation and the
expected timing of any resulting outcomes of economic
benefits
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 IAS 37- Decision tree
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obligation as No (past event) Possible No
result of an Obligation?
obligating event?

yes
No (< 50%) No
Probable Remote?
> 50%
outflows?
yes
No (rare)
Reliable No
estimate?

yes
Disclose Do
Provide
contingent nothing
liability
Notes
SFP: L
Contingent liabilities & assets
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Characteristic Accounting treatment

Asset virtually certain (>=90%) Assets (Statement of
Financial position)
Contingent Probable (>50%) Notes
asset
Possible (>=10%) None
Remote (<10%) None
Liability Virtually certain Liabilities (Statement
of financial position)
Probable Liability
Contingent probable, but not reliable Notes
liability Possible Notes
Remote None