FAR 24_PROVISIONS

FAR24 PROVISIONS
–
RELATED STANDARDS: PAS 37 – PROVISIONS, CONTINGENT
LIABILITIES & CONTINGENT ASSETS
TOPIC OUTLINE
Definition

Recognition

Provisions, Contingent Liabilities

& Contingent Assets

PROVISIONS Measurement
(PAS 37)
Recording of
Provisions

Commom Types of Provisions

Presentation & Disclosure

LECTURE NOTES
DEFINITION
A provision is present obligation of uncertain timing or uncertain amount.
Characteristics of Provisions
 Uncertainty of the amount of the liability as well as the timing of its settlement differentiates
provisions from other types of liabilities. Please be minded that the word uncertainty does not include
uncertainty of the existence of obligations.
 The past event that leads to a present obligation is called an obligating event.
 The present obligation may be legal or constructive.
A legal obligation is an obligation arising from a contract, legislation or other operation of law.
A constructive obligation is an obligation that is derived from an entity's actions where:
(a) The entity has indicated to other parties that it will accept certain responsibilities by reason of
an established pattern of past practice, published policy, or a sufficiently specific current
statement.
(b) And as a result the entity has created a valid expectation on the part of other parties that it
will discharge those responsibilities.
 A provision may be the equivalent of an estimated liability or a loss contingency that is accrued
because it is both probable and measurable.
 In some instances, the exact payee of estimated liabilities cannot be identified or determined.
RECOGNITION
PAS 37, paragraph 14, states that a provision shall be recognized as liability under the following conditions:
(1) The entity has a present obligation as a result of a past event.
(2) It is probable that an outflow of economic benefits shall be required to settle the obligation.
(3) The amount of the obligation can be measured reliably.
PROVISIONS, CONTINGENT LIABILITIES & CONTINGENT ASSETS
Likeliness to
Ranges of Outcome Treatment if LIABILITY Treatment if ASSET
Happen (U.S. GAAP)
More than 95% Virtually Certain Accrue as Asset
Provisions (Accrue) Contingent Asset (Disclosed
51% - 95% Probable
in Notes to FS
Contingent Liability
5% - 50% Possible
(Disclosed in Notes to FS Do Nothing
Less than 5% Remote Do Nothing
MEASUREMENT
The amount recognized as a provision should be the best estimate of the expenditure required to settle
the present obligation at the end of reporting period.
The best estimate is the amount that an entity would rationally pay to settle the obligation at the reporting
date or to transfer it to a third party at that time.
NOTE: Generally, the best estimate is the MOST LIKELY OUTCOME of the obligation.

Page 1 of 7
FAR 24_PROVISIONS

Scenario Best Estimate

Large Population (Distributed Probability) Expected Value
Continuous range of possible outcomes and each point in that
Midpoint
range is as likely as any other
OTHER MEASUREMENT CONSIDERATIONS
(1) RISK & UNCERTAINTIES - The risks and uncertainties that inevitably surround many events and
circumstances shall be taken into account in reaching the best estimate of a provision. It shall be
taken into account by multiplying the amount of provision to RISK ADJUSTMENT FACTOR.
(2) PRESENT VALUE - Where the effect of the time value of money is MATERIAL, the amount of
provision shall be the present value of the expenditures expected to be required to settle the
obligation.
(3) FUTURE EVENTS - Future events that affect the amount required to settle an obligation shall be
reflected in the amount of a provision where there is SUFFICIENT OBJECTIVE EVIDENCE that they
will occur.
(4) EXPECTED DISPOSAL OF ASSETS - Gains from expected disposal of assets shall NOT BE TAKEN
INTO ACCOUNT in measuring a provision.
(5) REIMBURSEMENT - Where some or all of the expenditure required to settle a provision is expected to
be reimbursed by another party, the reimbursement shall be recognized when it is virtually
certain that reimbursement will be received if the entity settles the obligation.
The reimbursement shall be treated as a separate asset and not "netted" against the estimated
liability for the provision. However, the related income can be offset to the expense generated by
the estimated liability.
(6) CHANGES IN PROVISION - Provisions shall be REVIEWED AT EACH REPORTING DATE and
adjusted to reflect the current best estimate.
(7) FUTURE OPERATING LOSSES - Provision shall NOT BE RECOGNIZED for future operating losses.
(8) ONEROUS CONTRACT - An onerous contract is a contract in which the unavoidable costs of meeting
the obligation under the contract exceed the economic benefits expected to be received under the
contract.
If an entity has an onerous contract, the present obligation under the onerous contract shall be
recognized and measured as a provision.
The amount to be recognized as provision is the lower amount between the cost of fulfilling the
contract and the compensation or penalty arising from failure to fulfil the contract.
RECORDING OF PROVISIONS
Generally, provisions are recorded by debiting the expense account and crediting the estimated liability
account.
Expense or Loss xx
Estimated Liability xx
EXCEPTION: If the provision is directly attributable to a certain asset, it is debited as cost of the asset. (i.e.
estimated dismantling cost for PPEs and estimated restoration cost for wasting assets)
Asset xx
Estimated Liability xx
COMMON TYPES OF PROVISIONS
Types of Provisions Present Obligation Arises When?
Lawsuit or Court Cases Upon causing damage or harm
Decommissioning Cost (c) Upon imposition of provision of a law or contract
Warranties (b)
Upon Sale
Premiums (a)
Guarantee Upon default of party guaranteed by the entity
(1) The entity has a detailed formal plan
(2) The entity has raised valid expectation in the
(d) minds of those affected that the entity will carry out
Restructuring
the restructuring by starting to implement the plan
and announcing its main features to those affected
by it.

PREMIUMS LIABILITY (a)

Premiums are articles of value such as toys, dishes, silverware, and other goods and in some cases cash
payments, given to customers as result of past sales or sales promotion activities.
FREQUENTLY ASKED QUESTIONS
(1) Premiums expense for the year (based on accrual of expense)
(2) Estimated premiums liability at the end of the year

Page 2 of 7
FAR 24_PROVISIONS

Estimated Premiums Liability

Actual Expense xx Beginning Balance xx
Accrual of Expense (upon sale) (1) xx
Ending Balance (2) xx
Accrual of expense is computed as: (No. of premiums expected to be distributed x net cost)
Actual expense is computed as: (Actual premiums distributed x net cost*)
* (Cost less reimbursement from customers)
WARRANTIES LIABILITY (b)
Home appliances like television sets, stereo sets, ratio sets, refrigerators and the like are often sold under
guarantee or warranty to provide free repair service or replacement during a specified period if the
products are defective. Such entity policy may involve significant costs on the part of the entity if the
products sold prove to be defective in the future within the specified period of time. Accordingly, at the
point of sale, a constructive obligation arises and a liability is incurred.
FREQUENTLY ASKED QUESTIONS
(1) Warranty expense for the year (based on accrual of expense)
(2) Estimated warranty liability at the end of the year
Estimated Warranty Liability
Actual Expense xx Beginning Balance xx
Accrual of Expense (upon sale) xx
Ending Balance xx
NOTE: Before accruing warranty liability at year-end, consider if estimated liability are still valid, that is,
are still probable to be settled in the next period (i.e. if warranties have expiration)
DECOMMISSIONING LIABILITY (c)
The cost of abandonment or decommissioning an asset after full exhaustion of its economic benefits is will
result to a provision known as decommissioning liability.
If there is an increase in the balance of decommissioning liability, the journal entry is:
Asset or Impairment Loss xx
Estimated Liability xx
If there is a decrease in the balance of decommissioning liability, the journal entry is:
Estimated Liability xx
Asset xx
RESTRUCTURING PROVISION (d)
PAS 37 defines restructuring as a "program that is planned and controlled by management and materially
changes either the scope of a business of an entity or the manner in which that business is conducted".
A restructuring provision shall include only direct expenditures arising from the restructuring,
meaning, those expenditures that are necessarily entailed by the restructuring and not associated with the
ongoing activities of the entity. For example, salaries and benefits of employees to be incurred after
operations cease and that are associated with the closure of the operations shall be included in the amount
of the restructuring provision.
PAS 37 specifically excludes the following expenditures from the restructuring provision:
(a) Cost of retraining or relocating continuing staff.
(b) Marketing or advertising program to promote the new entity image.
(c) Investment in new system and distribution network.
PRESENTATION AND DISCLOSURE
Provisions or estimated liabilities may be presented as current or non-current liability. Among those that
are presented as current liabilities are premiums liability and warranties liability. On the other hand, those
that are presented as non-current liabilities include decommissioning liabilities.
DISCLOSURE REQUIREMENTS
(1) Reconciliation showing the beginning balances, ending balances, additions and deduction for each
class of provision.
(2) For each class of provisions, the timing, assumptions used, nature, uncertainties and reimbursement.

Page 3 of 7
FAR 24_PROVISIONS

DISCUSSION EXERCISES
STRAIGHT PROBLEMS
PROVISIONS IN GENERAL
1. In relation to the estimated liability account of UST COMPANY, the following information were
presented to you for evaluation:
(a) On December 5, 2019, an employee filed a P3,000,000 lawsuit against UST COMPANY for
damages suffered when one of UST’s equipment malfunctioned in August of 2019. UST’s legal
counsel expects the company will lose the lawsuit (PROBABLE) and estimates the loss to
be between P500,000 and P1,500,000 (GET THE AVERAGE OF THE TWO AMOUNTS). The
employee has offered to settle the lawsuit out of court for P1,200,000 but UST will not agree
to the settlement.
(b) UST recalled a product on August 1, 2019 due to recently proven health hazard. The products
recalled will be repaired free of charge. The company is uncertain whether all of the products
recalled will have a defect. The following estimate was made by the company’s engineers and
accountants and approved by the board of directors: WEIGHTED AVERAGE OF PROBABILITIES
Repair Cost Probability
500,000 25%
600,000 20%
800,000 35%
900,000 20%
(c) During December 2019, a competitor filed suit against UST for industrial espionage, claiming
P700,000 in damages. Management and legal counsel believe it is probable that damages will be
awarded to the plaintiff and the best estimate of the damages is P600,000.
(d) At the beginning of the year, UST guaranteed a P300,000 loan obtained by DLSU from BDO
UNIBANK. On December 31, DLSU defaulted from this loan and it is possible (DISCLOSE ONLY)
that UST will be held liable to the bank for the loan of DLSU. BDO WILL EXHAUST MUNA YUNG
PROPERTIES NI DLSU BAGO PUMUNTA KAY UST
(e) In July 2019, ADMU brought action against UST for polluting the Pasig River with its waste
products. It is probable that ADMU will be successful but the amount of damages the entity
might have to pay should not exceed P1,500,000. The company’s P3,000,000
comprehensive public liability policy has a P200,000 deductible clause (2.8M LANG
IBIBIGAY). UST estimates that the cash outflow is equal to its net liability on the
comprehensive public liability policy. RECOGNIZE PROVISION AT ASSESSED VALUE OF 1.5M. IN
CASE YUNG 2.8 IS FROM COURT RULINGS MAS MANGINGIBABAW ANG LEGAL OBLIGATION SA
CONSTRUCTIVE OBLGN.
(f) The main production plant of UST COMPANY is located on the shores of a lake. The lake has
been rising for a number of years, and the company has installed dikes to prevent flooding. The
dikes are currently operating at or near capacity. Weather forecasters have predicted that the
lake will rise another 8 inches this coming summer (2020). If this occurs, significant damage will
likely result from stressing the dikes beyond capacity. UST COMPANY estimated a P4,000,000 to
P6,000,000 amount of loss should the flooding will not be prevented. FUTURE LOSSES, HINDI
PA NANGYAYARE ANG FLOODING EH
(g) UST is involved in litigation regarding a faulty product sold in a prior year. The entity has
consulted with an attorney and determined that it is possible that the entity may lose the case.
The attorney estimated that there is a 40% chance of losing. If this is the case, the attorney
estimated that the amount of any payment would be P1,000,000. DISCLOSE (PROBABLE IS
MORE THAN 50%)
(h) During 2019, UST is the defendant in a breach of patent lawsuit. The lawyers believe there is an
60% chance that the court will not dismiss the case and the entity will incur outflow of benefits.
If the court rules in favour of the claimant, the lawyers believe that there is a 70% chance that
the entity will be required to pay damages of P800,000 and a 30% chance that the entity will be
required to pay damages of P600,000. Other amounts of damages are unlikely. The court is
expected to rule in late December 2020. There is no indication that the claimant will settle out
of court. A 7% risk adjustment factor to the cash flows is considered appropriate to reflect the
uncertainties in the cash flow estimates. An appropriate discount rate is 10% per year.
REQUIREMENT: Based on the above information, how much is the total amount of provisions to be
reported on the statement of financial position as of December 31, 2019?

PREMIUMS LIABILITY
2. NU CORP. has initiated promotional program whereby each box of pancake mix contain one coupon,.
The customer is entitled for a frying pan if the customer submitted 3 coupons plus P30. NU CORP.
pays P50 for each frying pan and incurs additional P10 for handling and shipping costs upon
redemption. The following information are deemed relevant:
2019 2020
Number of boxes sold 150,000 180,000
Selling price per box P70 P75

Page 4 of 7
FAR 24_PROVISIONS

Number of frying pans purchased 30,000 25,000

Inventory of frying pans at year-end 18,000 16,000
The company estimates that 40% of the coupons issued from boxes sold will be presented for the
premium redemption. Coupons are redeemable within one-year from the date of purchase of the
related pancake mix.
REQUIREMENTS: (1) How much is the premiums expense to be reported in 2019 and 2020? (2) How
much is the estimated premiums liability to be reported at the end of 2019 and 2020?
SOLUTION:

3. FEU CORP. issues coupons to consumers which may be presented on or before their expiration date at
retail food stores in order to obtain discounts on certain products produced by FEU. Retail food stores
are reimbursed equal to the face value of the coupons redeemed, plus 10% coupon face value as
compensation for handling costs. FEU honors request for coupon redemptions by retail food stores
received up to three months after the consumer expiration date, In FEU’s experience, 60% of the
coupons issued ultimately are redeemed. Information with respect to the two series of coupons issued
by FEU during 2019 are as follows:
SERIES A SERIES B
Consumer expiration date June 30, 2019 December 31, 2019
Total face value of coupons issued P250,000 P500,000
Total payments to retailers as of 12/31/2019 148,500 275,800
REQUIREMENTS:
(1) How much is the promotional expense to be reported in 2019?
(2) How much is the estimated liability for unredeemed coupons to be reported at the end of in
2019?
WARRANTIES LIABILITY
4. During 2019, UE CORP. introduced a new line of machines that carries a two-year warranty against
manufacturer’s defects. Based on industry experience, the estimated warranty cost percentages
related to peso sales are as follows:
Year of sale 1%
Year after sale 6%
Sales and actual warranty expenditures for 2019 and 2020 were as follows:
Year Sales Actual Warranty Expenditures
2019 P1,000,000 P54,000
2020 1,400,000 89,000
REQUIREMENTS: (1) How much is the warranty expense to be recognized in 2019 and 2020,
respectively? (2) What is the estimated warranty liability as of December 31, 2019 and 2020,
respectively?

5. UP INC. owns a car dealership that it uses for servicing cars under warranty. In preparing its financial
statements, the entity needs to ascertain the provision for warranty that it would be required to
provide at the end of the year.
The entity's experience with warranty claims is as follows: 60% of all cars sold in a year have zero
defect, 25% of all cars sold in a year have normal defect, and 15% of all cars sold in a year have
significant defect.
The cost of rectifying a "normal defect" in a car is P10,000. The cost of rectifying a "significant defect"
in a car is P30,000. The entity sold 500 cars during the year.
REQUIREMENTS: What is the "expected value" of the warranty provision for the current year?
RESTRUCTURING PROVISION
6. On October 1, 2019 DLSU INC. decided to restructure the entity's operations as follows:
 DLSU has two factories located in Laguna and Batangas and it decided to shut down the
operations of its LAGUNA FACTORY.
 Employees working in LAGUNA FACTORY would be retrenched on October 31, 2019, and would
be paid their accumulated entitlements plus six months' wages but also some of its workers
would be transferred to BATANGAS FACTORY which would continue operating.

On December 31, 2019, the following transactions and events had occurred:
 The retrenched employees have left and their accumulated entitlements have been paid.
However, an amount of P300,000, representing a portion of the six months' wages for the
retrenched employees, has still not been paid.
 Costs of P80,000 are expected to be incurred in transferring the remaining employees to their
new work in BATANGAS FACTORY. The transfer is planned for January 15, 2020.
 Unpaid marketing costs as of this date amounted to P100,000 to promote the new image of the
entity.
 One employee, MIKA REYES, remains in order to complete administrative tasks relating to the
closure of LAGUNA FACTORY and the transfer of employees to BATANGAS FACTORY. MIKA
REYES is expected to stay until January 31, 2020. Her salary for January will be P30,000 and
her retrenchment package will be P90,000, all of which will be paid on the day he leaves. MIKA

Page 5 of 7
FAR 24_PROVISIONS

REYES would spend 70% of his time administering the closure of LAGUNA FACTORY, 20% on
administering the transfer of employees to BATANGAS FACTORY, and the remaining 10% on
general administration.
REQUIREMENT: What total amount should be recognized as restructuring provision on December 31,
2019?
DECOMMISSIONING PROVISION
7. On January 1, 2019, ADMU CORP. purchased on oil tanker depot at a cost of P2,000,000. The entity
is expected to operate the depot for 5 years after which it is legally required to dismantle the depot
and remove the underground storage tanks. The oil tanker depot is depreciated using straight line
with no residual value.

It is reliably estimated that the cost of decommissioning the depot will amount to P1,300,000. The
appropriate discount rate is 10%.
On January 1, 2022, the entity estimated that additional decommissioning cost is estimated at
P500,000.
On December 31, 2023, after 5 years of operating the depot, the entity paid a demolition entity to
dismantle the depot at a price of P2,000,000.
REQUIREMENTS: (1) How much is the estimated decommissioning liability at the end of 2019 and
2022 (2) How much is the gain or loss on settlement of decommissioning liability in 2023? (3) How
much is the net amount to be presented in profit or loss for 2019, 2022 and 2023?
MULTIPLE CHOICE (THEORIES)
1. Which of the following is correct regarding provisions?
A. The exact payee of estimated liabilities should be identified or determined in order for the
liability to exist. FALSE
B. Provision is a present obligation arising from a future event called as an obligating event.
FALSE
C. Uncertainty of the amount of the liability as well as the timing of its settlement differentiates
provisions from other types of liabilities. TRUE
D. None from the choices.
2. Which of the following creates a legal obligation?
A. Legislation or other operation of law.
B. Entity established pattern of past practice. CONSTRUCTIVE OBLIGATION
C. A contractual agreement between the entity and another party.
D. Both A and C
3. A provision shall be recognized when
A. There is a possible obligation arising from a past event, the outflow of resources is probable,
and an approximate, amount can be set aside toward the obligation.
B. There is a constructive obligation as a result of a past obligating event, the outflow of resources
is probable, and a reliable estimate can be made of the amount of the obligation.
C. Management decides that it is essential that a provision be made for unforeseen circumstances
and keeping in mind this year the profits were enough but next year there may be losses.
UNFORESEEN – FUTURE EVENT
D. There is a legal obligation arising from a past obligating event, the probability of the outflow of
resources is more than remote but less than probable, and a reliable estimate can be made of
the amount of the obligation. SHOULD BE BOTH PROBABLE AND RELIABLE ESTINATE CAN
BE MADE

4. Regarding proper measurement of provisions, which of the following is incorrect?

A. Reimbursements just like gains from expected disposal of assets, are recognized only when it is
virtually certain. It is presented as a separate asset but gains from it can be presented net of
the losses on the financial statements. CORRECT Reimbursement – asset; Provision – liability
REMOTE
POSSIBLE
PROBABLE
VIRTUALY CERTAIN
LIABILTY (provision) – recognize liability when probable and virtually certain
ASSET (reimbursement) – recognize asset only when virtually certain
B. The risks and uncertainties that inevitably surround many events and circumstances shall be
taken into account in reaching the best estimate of a provision. CORRECT
C. If an entity has an onerous contract, the present obligation under the onerous contract shall be
recognized and measured as a provision. The amount to be recognized as provision is the
HIGHER amount between the cost of fulfilling the contract and the compensation or penalty
arising from failure to fulfil the contract. INCORRECT, SHOULD BE LOWER

Page 6 of 7
FAR 24_PROVISIONS

D. Where the effect of the time value of money is MATERIAL, the amount of provision shall be the
present value of the expenditures expected to be required to settle the obligation. CORRECT
5. S1: When the provision involves a large population of items, the estimated liability shall be
measured as the midpoint of the possible outcomes. FALSE “with equal probability dapat yung
large population”
S2: If an entity did not record an accrual for a present obligation and did not disclose the nature of
the obligation and the range of the loss, the loss is likely to be remote. TRUE
S3: If the provision is directly attributable to a certain asset, it is debited as cost of the asset. TRUE
A. True, false, false D. False, false, true
B. False, true, true E. True, false, true
C. True, true, false
6. Reporting is required for
A. All loss contingencies.
B. Loss contingencies that are possible and can be reliably measured. DISCLOSE ONLY
C. Loss contingencies that are probable and can be reliably measured. RECOGNIZE – LIABILITY
D. Gain contingencies that are probable and can be reliably measured. RECOGNIZE – ASSET
7. An entity operates a plant in a foreign country. It is probable that the plant will be expropriated.
However, the foreign government has indicated that the entity will receive a definite amount of
compensation for the plant. The amount of compensation is less than the fair value but exceeds the
carrying amount of the plant. The contingent asset should be reported
A. In the statement of financial position
B. In the notes to the financial statements
C. As a fixed asset valuation allowance account
D. As a valuation allowance as part of shareholders' equity

8. Which of the following best describes the accrual approach of accounting for warranty cost?
A. Expensed when paid.
B. Expensed when incurred.
C. Expensed based on estimate in year of sale.
D. Expensed when warranty claims are certain.
9. The board of directors of an entity decided in the latter part of the current year to wind up
international operations in the Far East and move them to Australia. The decision was based on a
detailed formal plan of restructuring as required by PAS 37. This decision was conveyed to all workers
and management personnel at the headquarters in Europe. The cost of this restructuring plan can be
measured reliably. How should the entity treat this restructuring in the financial statements for the
current year-end? SAME CONCEPT ABOUT RESTRUCTURING PROVISIONS OF BUSCOM
A. Mention the decision to restructure and the cost involved in the chairman's statement in the
annual report since it is a decision of the board of directors.
B. Because the restructuring has not commenced before year-end, based on prudence, wait until
next year and do nothing in this year's financial statements. PWEDE NAMAN IDISCLOSE
C. Recognize a provision for restructuring since the board of directors has approved it and it has
been announced in the headquarters of the entity in Europe.
D. Disclose only the restructuring decision and the cost of restructuring because the entity has not
announced the restructuring to those affected by the decision and thus has not raised an
expectation that the entity would actually carry out the restructuring.
10. A provision should be recognized for which of the following?
A. Future operating losses. PAST EVENT DAPAT
B. Possible losses from unfavourable outcome of court cases. DISCLOSE
C. Decline in value of the asset due to impairment. REDUCTION IN CA OF ASSET NOT LIABILITY
D. Liability for unredeemed coupons. RECOGNIZE

Page 7 of 7