Objective: IAS 37 establishes principles for recognizing, measuring, and disclosing provisions, contingent liabilities, and contingent assets. The standard ensures appropriate recognition criteria and measurement bases are applied.
- Applies to all entities preparing financial statements under IFRS
- Does not apply to:
- Provisions covered by other standards (e.g., IAS 12, IAS 17)
- Executory contracts (unless onerous)
- Insurance contracts
- Key purpose: Prevent overstatement of liabilities and understatement of assets
Provision: A liability of uncertain timing or amount.
Liability: A present obligation arising from past events, the settlement of which is expected to result in an outflow of resources.
Contingent Liability: A possible obligation or a present obligation that is not recognized because it's not probable or cannot be measured reliably.
Contingent Asset: A possible asset arising from past events whose existence will be confirmed only by uncertain future events.
Obligating Event: An event that creates a legal or constructive obligation.
Three Conditions: A provision should be recognized when ALL of the following conditions are met:
| Condition | Description |
|---|---|
| Present Obligation | Entity has a present obligation (legal or constructive) as a result of a past event |
| Probable Outflow | It is probable (more likely than not) that an outflow of resources will be required to settle the obligation |
| Reliable Estimate | A reliable estimate can be made of the amount of the obligation |
Constructive Obligation: An obligation that arises from an entity's actions where:
- Entity has indicated to other parties that it will accept certain responsibilities
- Entity has created a valid expectation that it will discharge those responsibilities
Best Estimate: The amount recognized as a provision should be the best estimate of the expenditure required to settle the present obligation.
| Aspect | Measurement Approach |
|---|---|
| Single Obligation | Most likely outcome; if continuous range of possible outcomes, use expected value method |
| Large Population | Expected value method (probability-weighted average) |
| Discounting | Provisions should be discounted when the time value of money is material |
| Future Events | Consider only future events that are reasonably expected to occur (e.g., new legislation, technological changes) |
| Reimbursements | Recognize reimbursement as a separate asset when virtually certain to be received |
Onerous Contracts: A contract in which the unavoidable costs of meeting the obligations exceed the economic benefits expected to be received.
Restructuring: A program that is planned and controlled by management, which materially changes either the scope of business or manner of conducting business.
| Application | Recognition Criteria |
|---|---|
| Onerous Contracts | Recognize provision for the present obligation under the contract |
| Restructuring | Recognize provision only when:
|
| Warranties | Recognize provision for expected warranty claims based on past experience |
| Legal Claims | Recognize provision if outcome is probable and amount can be reliably estimated |
Restructuring Costs: Do NOT include costs for:
- Retraining or relocating continuing staff
- Marketing
- Investment in new systems
| Item | Accounting Treatment | Disclosure |
|---|---|---|
| Contingent Liability | Do NOT recognize | Disclose unless possibility of outflow is remote |
| Contingent Asset | Do NOT recognize | Disclose only when inflow is probable |
| Possible Obligation | Assess likelihood continuously | Treat as contingent liability |
Scenario: Company faces legal action with three possible outcomes:
• 60% probability: No liability
• 25% probability: $100,000 settlement
• 15% probability: $200,000 settlement
Calculation:
Expected value = (0.60 × $0) + (0.25 × $100,000) + (0.15 × $200,000)
Expected value = $0 + $25,000 + $30,000 = $55,000
Conclusion: Recognize provision of $55,000 if all recognition criteria are met
Continuous Assessment: Provisions should be reviewed at each reporting date and adjusted to reflect the current best estimate.
| Situation | Accounting Treatment |
|---|---|
| No longer meets criteria | Reverse the provision |
| Change in estimate | Adjust provision amount (no reversal of past losses) |
| Discounting change | Increase in carrying amount treated as borrowing cost |
| Use of provision | Only for expenditures the provision was originally recognized for |
Extensive Disclosures: Entities must provide sufficient information to understand the nature, timing, and uncertainty of provisions and contingent items.
| For Provisions | For Contingent Items |
|---|---|
|
|
Exemption: In rare cases, disclosure of some or all information required for provisions may prejudice seriously the position of the entity in a dispute. In such cases, the information need not be disclosed.
Definition: A liability of uncertain timing or amount.
Recognition Criteria for Provisions
A provision is recognized if all of the following are met:
- O (Present Obligation): Present obligation from past event
- R (Reliable Estimate): Reliable estimate of the amount can be made
- T (Transfer of Resources): Probable outflow of resources embodying economic benefits
Measurement
Recognized at the best estimate of expenditure required.
Probability and Accounting Treatment
| Probability | Accounting Treatment | Example |
|---|---|---|
| Probable (+50%) | Recognize a Provision (Dr Expense / Cr Provision Liability) | 60%, 70%, 80% |
| Possible (≤50%) | Only Disclose as Contingent Liability | 0% - 50% |
| Remote (≈0%) | Neither recognize nor disclose | 0% - 5% |
Contingent Assets
- Never recognized in financial statements
- Disclosed only when realization is virtually certain