AYB200 Lecture 5: Lecture 5
Lecture 5: Liabilities
WHAT IS A LIABILITY?
• 3 definition criteria:
There must be a present obligation
A past transaction or other event must have created the obligation
There must be a future disposition of economic benefits to other entities (an outflow from the
entity)
• Consider underlying substance and economic reality and not merely its legal form (para 51)
Present Obligation:
- Essential characteristics of a liability
o A duty or responsibility to act in a certain way
o May be legally enforceable
o Might also arise from normal business practice, custom and desire to maintain good
relations or act equitably
- Present Obligation VS Future commitment
o A decision about a future action does not necessarily lead to a present obligation
o Does the entity have a commitment now?
o Are there economic consequences of failing to honour the obligation?
- Settlement and Estimation:
o Satisfying the obligation (CF para 62):
▪ Payment of cash
▪ Payment with asset
▪ Provision of services
▪ Exchange for another obligation
▪ Conversion to equity
o Estimation (CF para 64): Does not prevent an item
from being defined as a liability
▪ Provision for warranties
▪ Provision for long service leave
▪ Provision for sick leave
Example of liability settlement:
Day 1:
DR Cash 1,200
CR Unearned subscription
revenue 1,200
(cash prepaid for 12 months of
newspaper subscription)
Day 30:
DR Unearned revenue 100
CR Subscription revenue 100
(partial settlement of liability for
1 one month of newspapers
delivered)
Unearned revenue is the liability.
- Recognition Criteria:
o A liability is to be recognised on the balance sheet if (AASB Framework para. 83):
▪ it is probable that any future economic benefit associated with the item will
flow to or from the entity
▪ the item has a cost or value that can be measured with reliability
Some professional judgment may be required!
o Important:
o If an item does NOT satisfy BOTH the definition and recognition criteria, then an
entity should not include it on its balance sheet.
o If there is a clash, standards override the AASB Framework, otherwise they ‘fall in’
under the AASB Framework
o Classification of liabilities:
▪ Classification of liabilities as ‘current’ or ‘non-current’
▪ Entities may choose how to disclose their liabilities on the basis of (AASB
101 para 60):
• Whether they are “current” or “non-current”; or
• the order of liquidity (how easily they can be converted into cash)
▪ The method chosen must provide more relevant and reliable information
(para. 55 of AASB 101)
o CURRENT OR NON-CURRENT LIABILITIES?
▪ Current liabilities (AASB 101 para 69) are liabilities which satisfy any of the
following criteria:
• expected to be settled in the entity’s normal operating cycle;
• held primarily for trading purposes;
• due to be settled within 12 months after reporting date; or
• liabilities in respect of which the entity does not have an
unconditional right to defer settlement for at least 12 months after
the reporting date
▪ Non-current liabilities (AASB 101 para 69) are:
• all liabilities that do not satisfy the criteria for defining current
liabilities
PROVISIONS
- AASB 137 Provisions, Contingent Liabilities and Contingent Assets (para 10) defines a liability as:
• “a present obligation of the entity arising from past events, the settlement of which
is expected to result in an outflow from the entity of resources embodying economic
benefits”
This is equivalent to the definition provided in the AASB Framework.
Provision: “a liability of uncertain timing or amount” (AASB 137, para 10)
- Provisions: Traditionally, provisions treated as liabilities and disclosed on balance sheets
o For example: provisions for employee entitlements and maintenance and warranty
repairs
- Provisions and obligations:
Document Summary
What is a liability: 3 definition criteria: A past transaction or other event must have created the obligation. There must be a future disposition of economic benefits to other entities (an outflow from the entity: consider underlying substance and economic reality and not merely its legal form (para 51) Essential characteristics of a liability: a duty or responsibility to act in a certain way, may be legally enforceable, might also arise from normal business practice, custom and desire to maintain good relations or act equitably. Cr unearned subscription revenue 1,200 (cash prepaid for 12 months of newspaper subscription) Cr subscription revenue 100 (partial settlement of liability for. Recognition criteria: a liability is to be recognised on the balance sheet if (aasb framework para. 83): it is probable that any future economic benefit associated with the item will flow to or from the entity the item has a cost or value that can be measured with reliability.
