- 15 Marks
FR – May 2017 – L2 – SB – Q7 – Provisions, Contingent Liabilities and Contingent Assets (IAS 37)
Explain criteria for recognizing provisions, differentiate between provisions and contingent liabilities, and apply IAS 37 to specific company scenarios.
Question
a. IAS – 37 applies to all provisions and contingencies apart from those covered by the specific requirement of other standards.
Therefore, provisions differ from other liabilities because there is uncertainty about timing or amount of the future cashflow required to settle the liability.
Required:
- Explain the criteria for recognition of provisions in the financial statements and distinguish between provisions and contingent liabilities.
(6 Marks)
b. The following activities took place in THREE different companies:
- Otapiapia Plc: A Rat Trap Company based in Nigeria has just secured exportation of rat killers to South Africa. The advertising slogan of the rat killers is “KILL the BLACKS.” A South African anti-racist movement with a representative in Nigeria is claiming N15,000,000 from the company as damages because the advertising slogan allegedly compromises the dignity of black people. The company’s legal representative believes that the success of the claim will depend on the judge who presides over the case. They estimate, however, that there is a 70 percent probability that the claim will be thrown out and a 30 percent probability that it will succeed.
- Ire-Akari Motors Plc: A Nigerian company that specialises in the manufacture of “made-in-Nigeria cars.” During the current financial year, 100 cars have been completed and sold. During testing, a defect was found in their steering mechanism. All 100 customers that bought the cars were duly informed of the defect and were told to bring their cars back to have the defects repaired at no cost. All the customers have indicated that this is the only remedy they require. The estimated cost of the recall is N10.5m. The manufacturer of the steering mechanism, a quoted company with sufficient funds, has accepted responsibility for the defect and has undertaken to reimburse Ire-Akari Motors Plc for all costs that it might incur.
- Abeokuta Electricity Company Plc: This company sold a number of electricity transformers with a warranty in the year ended December 31, 2015. At the beginning of the year, the provisions for warranty stood at N5,625,000. A number of claims have been settled during the period for N3,000,000. At the year-end, there were unsettled claims for 300 customers. Experience is that 40% of the claims submitted do not fulfil warranty conditions and can be defended at no cost. The average cost of settling other claims will be N52,500 each.
Required: Explain how the matters in (b)(i) to (b)(iii) above should be accounted for in the financial statements of the three companies using figures to illustrate your points where appropriate.
(9 Marks)
Find Related Questions by Tags, levels, etc.
- Tags: Contingencies, Financial Statements, IAS 37, Liability, Provisions, Recognition, Warranty Claims
- Level: Level 2
