Testbank

to accompany

®
Applying IFRS
Standards 4e
Ruth Picker, Kerry Clark, John Dunn, David Kolitz, Gilad
Livne, Janice Loftus, Leo van der Tas

Prepared by
John Sweeting, Emma Holmes and
Elisabetta Barone
 Chapter 5 Provisions, contingent liabilities and contingent assets

John Wiley & Sons, Ltd 2016

© John Wiley & Sons, Ltd 2016 5.1

Testbank to accompany Applying IFRS Standards 4e

CHAPTER 5

Provisions, contingent liabilities and contingent assets

Learning Objectives

5.1 Describe the background to IAS 37

5.2 Identify which items are included within the scope of the standard

5.3 Outline the concept of a provision

5.4 Discuss how to distinguish provisions from other liabilities

5.5 Outline the concept of a contingent liability

5.6 Describe how to distinguish a provision from a contingent liability

5.7 Explain when a provision should be recognised

5.8 Explain how a provision, once recognised, should be measured

5.9 Apply the definitions, recognition and measurement criteria for provisions and contingent
liabilities to practical situations

5.10 Outline the concept of a contingent asset

5.11 Describe the disclosure requirements for provisions, contingent liabilities and contingent
assets

5.12 Compare the requirements of IFRS 3 regarding contingent liabilities with those of IAS 37

5.13 Explain the expected future developments for IAS 37.

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 Chapter 5 Provisions, contingent liabilities and contingent assets

Multiple Choice Questions

1. Provisions in relation to which of the following balances are within the scope of IAS 37?
Learning Objective 5.2 Identify which items are included within the scope of the standard
*a. warranties
b. employee benefits
c. financial instruments
d. operating leases

2. The uncertainty that exists in relation to provisions is one of:

Learning Objective 5.3 Outline the concept of a provision
a. timing
b. amount
c. timing and amount
*d. timing or amount

3. Which of the following is an example of a provision falling within the scope of IAS 37?
Learning Objective 5.4 Discuss how to distinguish provisions from other liabilities
a. accruals
*b. onerous contracts
c. employee benefits
d. future operating losses

4. An event that gives rise to a present obligation, but which cannot be measured with
sufficient reliability is an example of a:
Learning Objective 5.5 Outline the concept of a contingent liability
a. liability
b. accrual
c. provision
*d. contingent liability

5. Entity A has provided a bank guarantee to a bank in relation to a loan provided to entity B.
Entity B is solvent and shows no signs of defaulting on the loan. The treatment of the
bank guarantee in the records of entity A is to:
Learning Objective 5.6 Describe how to distinguish a provision from a contingent liability
a. recognise a liability
b. recognise a provision
*c. recognise a contingent liability
d. do nothing

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Testbank to accompany Applying IFRS Standards 4e

6. Provisions shall be recognised when:

I an entity has a present obligation

II it is possible that an outflow of resources will be required to settle the obligation
III the amount of the obligation can be reliably estimated
IV there has been a past event

Learning Objective 5.7 Explain when a provision should be recognised

a. I, II and III
b. II, III and IV
*c. I, III and IV
d. I, II and IV

7. Liabilities which fail the recognition criteria and where the possibility of an outflow is
remote should:
Learning Objective 5.7 Explain when a provision should be recognised
a. be recognised as an accrual
b. be recognised as a provision
c. be recognised as a contingent liability
*d. not be recognised in the financial statement at all

8. JayJay Limited estimated that the future cash outflows relating to settlement of warranty
obligations would be as follows:
In 1 year $40 000
In 2 years $50 000
In 3 years $60 000.
A government rate for bonds with similar terms is 6%. What is the present value of the
total expected future cash outflow?
Learning Objective 5.8 Explain how a provision, once recognised, should be measured
*a. $132 563;
b. $140 510;
c. $150 000;
d. $159 000.

9. According to IAS 37, when providing for the future, a future event such as the clean-up of
a contaminated site, gains and other cash inflows that are expected to arise on the sale of
asset related to the clean-up, must be treated as follows:
Learning Objective 5.8 Explain how a provision, once recognised, should be measured
a. set-off against the provision for the clean-up;
*b. measured separately of the provision;
c. recognised directly in equity in the period in which the cash inflows arose;
d. recognised as a deferred asset.

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 Chapter 5 Provisions, contingent liabilities and contingent assets

10. Purcell Limited is a manufacturer of swimming pools and provides its customers with
warranties at the time of sale. The warranty applies for three years from the date of sale.
Past experience shows that there will be some claims under the warranties. The
appropriate treatment of this item under IAS 37 Provisions, Contingent Liabilities and
Contingent Assets, is to:
Learning Objective 5.8 Explain how a provision, once recognised, should be measured
a. disclose in the notes, but do not recognise in the financial statements;
*b. recognise the best estimate of costs as a provision;
c. charge the costs directly to profit or loss in the period in which the economic
outflows occur;
d. transfer the expected amount of the warranty from retained earnings to a special
reserve account in equity.

11. A railway company is required, under law, to overhaul its rail-tracks every three years as
a safety measure. The appropriate treatment of this event for the purposes of preparing
financial statements is:
Learning Objective 5.9 Apply the definitions, recognition and measurement criteria for
provisions and contingent liabilities to practical situations
a. recognise as a provision for future maintenance costs;
*b. estimate the future maintenance costs and charge as depreciation over the next
three years;
c. disclose in the notes as a contingent liability, but do not recognise;
d. estimate the future cash outflows and discount to determine the amount to be
recognised as a deferred liability.

12. The following is statement made in IAS 37:

‘a contract in which the unavoidable costs of meeting the obligations under the contract
exceed the economic benefits expected to be received under it’.
This statement provides a definition of:
Learning Objective 5.9 Apply the definitions, recognition and measurement criteria for
provisions and contingent liabilities to practical situations
*a. an onerous contract;
b. a deferred liability;
c. a future operating loss;
d. a present obligation.

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Testbank to accompany Applying IFRS Standards 4e

13. McCann Limited announced its plans for a major restructuring of its operations. Under
IAS 37, the entity is able to:
Learning Objective 5.9 Apply the definitions, recognition and measurement criteria for
provisions and contingent liabilities to practical situations
a. capitalise all direct and indirect restructuring costs;
b. set up a provision for the best estimate of all restructuring costs;
*c. provide only for restructuring costs that are directly and necessarily caused by the
restructuring;
d. provide for restructuring costs that are associated with the ongoing activities of the
entity.

14. According to IAS 37, the appropriate accounting treatment for future operating losses is
to:
Learning Objective 5.9 Apply the definitions, recognition and measurement criteria for
provisions and contingent liabilities to practical situations
a. determine a reasonable estimate of the cost and provide for the future liability;
b. determine the cost and charge it directly against retained earnings;
*c. not recognise such items in the financial statements;
d. measure on the basis of estimated future cash flows.

15. The following statement, contained in IAS 37, defines:

‘a possible asset that arises from past events and whose existence will be confirmed only
by the occurrence or non-occurrence of one or more uncertain future events not wholly
within the control of the entity’
Learning Objective 5.10 Outline the concept of a contingent asset
a. a deferred liability;
b. a contingent liability;
c. a deferred asset;
*d. a contingent asset.

16. At balance sheet date, Raschella Limited was awaiting the final details of a court case for
damages awarded in its favour. The amount and possible receipt of damages is unknown
and will not be decided until the court sits again in several months’ time. How is this event
dealt with in the preparation of the financial statements?
Learning Objective 5.10 Outline the concept of a contingent asset
a. do not recognise or disclose in the financial statements as the possibility of receiving
damages is remote;
b. recognise as an asset in the financial statements as the receipt of damages is
probable;
*c. disclose in the notes to the financial statements as it is possible that the entity will
receive the damages and the court decision is out of its control;
d. recognise as a deferred asset in the statement of financial position and re-classify
as a non-current asset when the court decision is known.

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 Chapter 5 Provisions, contingent liabilities and contingent assets

17. According to IAS 37, the appropriate treatment for a contingent asset in the financial
statements of an entity is:
Learning Objective 5.10 Outline the concept of a contingent asset
*a. disclosure of information in the notes, but do not recognise in the financial
statements;
b. recognition in the financial statements, and note disclosure;
c. recognition in the financial statements, but no further disclosure in the notes;
d. do not recognise in the financial statements, and do not disclose in the notes.

18. In respect to a contingent liability, IAS 37 requires disclosure of

Learning Objective 5.11 Describe the disclosure requirements for provisions, contingent
liabilities and contingent assets
a. any increase in the contingent liability during the period;
*b. an estimate of its financial effect;
c. the carrying amount at the beginning and end of the period;
d. an indication of the uncertainties about the amount or timing of expected outflows.

19. For each class of provision, an entity is required by IAS 37 to disclose the following
information:

I The carrying amount at the beginning and end of the period.

II Amounts incurred and charged against the provision during the period.
III Comparative information.
IV Unused amounts reversed during the period.
V Additional provisions made during the period.

Learning Objective 5.11 Describe the disclosure requirements for provisions, contingent
liabilities and contingent assets
*a. I, II, IV and V only;
b. I, II, and III only;
c. II, III and IV only;
d. I, III, IV and V only.

20. The June 2005 Exposure Draft issued in relation to proposed changes to IAS 37:
Learning Objective 5.13 Explain the expected future developments for IAS 37
a. will be issued as a standard applicable for reporting periods ending on or after 1
June 2014
b. has been withdrawn by the IASB
*c. is still under consideration by the IASB
d. is already applicable

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Testbank to accompany Applying IFRS Standards 4e

21. Which of the following is not within the scope of IAS 37?
Learning Objective 5.2 Identify which items are included within the scope of the standard.
a. The treatment of future operating losses
b. The treatment of contingent assets
*c. The treatment of restructuring provisions arising from a business combination
d. The treatment of onerous contracts

22. An example of where an entity has a present obligation is:

Learning Objective 5.3 Outline the concept of a provision.
*a. a public announcement made by an entity’s management to undertake restructuring.
b. a recommendation from the HR manager to the Board as to the level of bonuses to
be paid at year end.
c. a historical pattern of performing a major overhaul of machinery every two years.
d. the declaration of a dividend by directors which is required to be ratified at a meeting
of shareholders

23. Which of the following statements is correct?

Learning Objective 5.3 Outline the concept of a provision.
a. A present obligation is an example of a legal obligation.
b. A legal obligation is an example of a constructive obligation.
c. A constructive obligation is an example of an equitable obligation.
*d. An equitable obligation is an example of a present obligation.

24. Which of the following statements is correct?

Learning Objective 5.4 Discuss how to distinguish provisions from other liabilities.
*a. a provision is a class of liabilities
b. a contingent liability is a class of liabilities
c. a provision is a class of contingent liabilities
d. contingent liabilities and provisions are classes of liabilities

25. A contingent liability is defined as a:

I II III IV
possible obligation that arises from past Yes Yes No No
events
possible obligation whose existence will be
Yes No Yes No
confirmed by the occurrence of an uncertain
future event

Learning Objective 5.5 Outline the concept of a contingent liability.

*a. I;
b. II;
c. III;
d. IV.

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 Chapter 5 Provisions, contingent liabilities and contingent assets

26. Contingent liabilities are:

Learning Objective 5.6 Describe how to distinguish a provision from a contingent liability.
a. recognised in the financial statements unless the possibility of an outflow in
settlement is remote.
*b. recognised in the notes to the financial statements unless the possibility of an
outflow in settlement is remote.
c. recognised in the notes to the financial statements because the possibility of an
outflow in settlement is remote.
d. not recognised in the notes to the financial statements because the possibility of an
outflow in settlement is remote.

27. An entity sells goods under warranty and past experience shows that minor defects
account for 10% of sales and major defects account for 2% of sales. If all minor defects
were repaired the warranty cost would be €300 000, and if all major defects were repaired
the warranty cost would be €800 000. The expected value of the warranty cost is:
Learning Objective 5.8 explain how a provision, once recognised, should be measured.
a. €0;
b. €22 000;
*c. €46 000;
d. €86 000.

28. The costs under an onerous contract are measured using which valuation method?
Learning Objective 5.9 Apply the definitions, recognition and measurement criteria for
provisions and contingent liabilities to practical situations.
a. the lower of cost or net market value;
*b. the lower of the cost of fulfilling the contract and the penalties arising from failure to
fulfil the contract;
c. the present value method using a risk-free discount rate;
d. the unavoidable costs of meeting the obligations discounted by reference to market
yields at reporting date.

29. Entities are not required to disclose which of the following in relation to provisions?
Learning Objective 5.11 Describe the disclosure requirements for provisions, contingent
liabilities and contingent assets.
a. carrying amounts of provisions at the beginning of the period
b. amounts used during the period
c. the effect of any change in the discount rate used
*d. comparatives

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Testbank to accompany Applying IFRS Standards 4e

30. The June 2005 exposure draft issued in relation to IAS 37 proposed changes to:

I the name of the standard

II recognition and measurement criteria
III the definition of contingencies
IV the method of disclosure for provisions

Learning Objective 5.13 Explain the expected future developments for IAS 37.
*a. I, II and III
b. II, III and IV
c. I, III and IV
d. I, II and IV

© John Wiley & Sons, Ltd 2016 5.10