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Lecture

ACCT 301 Lecture Notes - Contingent Liability, Financial Statement


Department
Accounting
Course Code
ACCT 301
Professor
All

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Chapter 12
As with the requirements of all financial reporting standards, financial statements
must provide all the information necessary for an understanding of the company’s
financial position, in order for them to present a true and a fair view of the company’s
affairs.
As a continuation to the previous standards, such as FRS 3, the statement of principles
and SSAP 17, FRS 12 takes things further by tackling the subject of provisions,
contingent liabilities and contingent assets.
According to FRS 12, a provision is a:
a) Liability of uncertain timing or amount.
b) Liability is an obligation of an entity to transfer economic benefits as a result
of past transactions or events.
According to ME, or in layman’s terms, a provision is a liability that we are uncertain
of, which we may be obliged to settle.
E.g. If a company is obliged to incur clean up costs for environmental damage that
has already been cause, should a provision be made?
Yes, because we incurred the liability of the cleaning costs during a period of time in
the past, and we are now obliged to settle it, but we don’t know when or its amount.
Thus a provision should be made.
But, when are provisions recognized?
1) When a business has a PRESENT obligation as a result of a past event.
2) It is probable that a transfer of economic benefits will be required to settle the
obligation.
3) A reliable estimate can be made of the obligation.
Good, now we know when to recognize them, but what is their accounting treatment?
Well, once a provision is recognized, the company can do one of three things, one is
to provide for the provision and disclose it in our accounts, the next choice is simply
disclose it by way of notes, or to simply ignore it.
If there is a high probability of a transfer of economic benefits and a reliable estimate
could be made for the amount, the company should provide for the provision.
Otherwise, whether there is a remote transfer of economic benefits or not, the inability
to provide a reliable estimate, means that we could do is to disclose the provision by
way of notes.
Worked Example
This example is provided by FRS 12 concerning the costs of restructuring, and it
defines it as a program that is planned and controlled by management and materially
changes either:
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