Chapter 12: Current Liabilities, Provisions, Contingencies, and Events after the Balance Sheet Date

Chapter 12: Current Liabilities, Provisions, Contingencies, and Events after the Balance Sheet Date

Perspective and Issues

Although IAS does not require that it be done, the segregation of assets and of liabilities into current and noncurrent components does assist in the analysis of financial position, by permitting the determination of net working capital and of the ratio of current assets to current liabilities. Net working capital, which is the relatively liquid portion of total enterprise capital, can be used to assess the ability of an enterprise to repay its obligations as they come due. This assumes that the entity is a going concern; if it instead is to be liquidated in the near future, classification of assets and liabilities is inappropriate and meaningless.

Current liabilities are those obligations of the reporting entity whose liquidation is reasonably expected to require either the use of existing resources properly classified as current assets or the creation of other current liabilities. Accordingly, any currently maturing obligations that will be satisfied by the use of noncurrent assets, and any currently maturing obligations expected to be refinanced, are not properly considered to be current liabilities.

For balance sheet presentation purposes, the offsetting of assets and liabilities is improper unless an actual right of setoff exists. A right of setoff is a debtor's legal right to discharge debt owed to another party by applying against the debt an amount the other party owes to the debtor.

Contingent assets or liabilities are those whose ultimate outcome will be determined by future events. The accounting for contingencies is set forth in IAS 37, which addresses provisions, contingent liabilities, and contingent assets. This superseded the requirements that had been incorporated in the former IAS 10 in 1999. A revised IAS 10, also issued in 1999, now addresses only the accounting for the disclosure of "events after the balance sheet date."

Compared to its predecessor, IAS 37 has created a more complex typology of provisions and contingencies. Under this standard, the term "provisions" largely replaces "contingent liabilities" for those meeting the threshold test for recognition that occurs when the likelihood of occurrence is "probable." Provisions are real liabilities (i.e., their existence is not contingent on future events) but have amounts or timings that are uncertain which heretofore had been referred to most commonly as estimated liabilities. IAS 37 reserves the term "contingent liability" for those potential obligations that are unrecognized—although those that meet a lower threshold (i.e., involving a more than remote possibility of an outflow of resources) must be disclosed. IAS 37 offers detailed practical guidance regarding several types of provisions, most importantly those arising in connection with restructurings.

IAS 37 also addresses the matter of contingent assets (which are presented in this chapter to unify the discussion of contingencies in a single location) which are to be disclosed where an inflow of economic benefits is deemed to be probable. However, when the realization of income is virtually certain, then the related asset is not considered to be a contingent asset, and full recognition is appropriate.

IAS 10 prescribes rules for accounting and disclosure of events, both favorable and unfavorable, which occur between the balance sheet date and the date when the financial statements are authorized for issue. Such post-balance-sheet date events require either formal recognition or only disclosure, depending on the character and timing of the event in question, which are referred to as "adjusting" and "nonadjusting," respectively.

In practice, there may be some ambiguity as to when the financial statements are actually "authorized for issuance." For this reason, the revised standard recognizes that the process involved in authorizing the financial statements for issue will vary and may be dependent upon the reporting entity's management structure, statutory requirements, and the procedures prescribed for the preparing and finalizing of the financial statements. Thus, IAS 37 illustrates in detail the principles governing the determination of the financial statements' authorization date, which date is required to be disclosed.

It is anticipated that IAS 10 will be amended to clarify that an entity should not recognize a liability for dividends declared after the balance sheet date because it is not a present obligation at balance sheet date as described in IAS 37. Also, the definitions of contingent asset and contingent liability currently found in IAS 37 will probably be revised, as a consequential change necessitated by the IASB's business combinations projects, primarily to converge with the US GAAP definitions. The changes will not have any substantive impact on the recognition or measurement of contingent assets or contingent liabilities.

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Sources of IAS

IAS 1, 10, 37, 39

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