TOPIC 5 & 6

CURRENT LIABILITIES, PROVISIONS,

AND CONTINGENCIES

Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and
Warfield

13-1
 Learning
LLeeararnnObjectivesinni gg
ObjectOebcjtivvi eses
1. Describe the nature, type, and valuation of current liabilities.

2. Explain the classification issues of short-term debt expected to

be refinanced.

3. Identify types of employee-related liabilities.

4. Explain the accounting for different types of provisions.

5. Identify the criteria used to account for and disclose contingent

liabilities and assets.

6. Indicate how to present and analyze liability-related

information.

13-2
 Current
CuCurrrren Liabilities
enttLLiaiaband Contingencies
biliilitiesties anandd
CoC
onn
itg tence
nin issein
ce

Presentation and
Current Liabilities Provisions Contingencies
Analysis

What is a liability? Recognition Contingent Presentation of

What is a current Measurement liabilities current liabilities
liability? Common types Contingent Analysis of current
assets liabilities
Disclosures

13-3
 What
WhWhis ataa t isLiability?
is aa
LLiaai bbillty
i yt ??
Three essential characteristics:
1. Present obligation.

2. Arises from past events.

3. Results in an outflow of
resources (cash, goods,
services).

13-4
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Current liability is reported if one of two conditions exists:

1. Liability is expected to be settled within its normal operating

cycle; or

2. Liability is expected to be settled within 12 months after the

reporting date.

The operating cycle is the period of time elapsing between the

acquisition of goods and services and the final cash realization resulting
from sales and subsequent collections.

13-5 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Typical Current Liabilities:
 Accounts payable.  Customer advances and
deposits.
 Notes payable.
 Unearned revenues.
 Current maturities of long-
term debt.  Sales taxes payable.
 Short-term obligations  Income taxes payable.
expected to be refinanced.
 Employee-related liabilities.
 Dividends payable.

13-6 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Accounts Payable (trade accounts payable)
Balances owed to others for goods, supplies, or services
purchased on open account.

 Time lag between the receipt of services or acquisition

of title to assets and the payment for them.

 Terms of the sale (e.g., 2/10, n/30 or 1/10, E.O.M.)

usually state period of extended credit, commonly 30 to
60 days.

13-7 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Notes Payable
Written promises to pay a certain sum of money on a
specified future date.

 Arise from purchases, financing, or other transactions.

 Notes classified as short-term or long-term.

 Notes may be interest-bearing or zero-interest-bearing.

13-8 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Interest-Bearing Note Issued
Illustration: Castle National Bank agrees to lend $100,000 on
March 1, 2011, to Landscape Co. if Landscape signs a $100,000,
6 percent, four-month note. Landscape records the cash received
on March 1 as follows:

Cash 100,000
Notes Payable 100,000

13-9 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
If Landscape prepares financial statements semiannually, it
makes the following adjusting entry to recognize interest
expense and interest payable at June 30:

Interest calculation = ($100,000 x 6% x 4/12) = $2,000

Interest expense 2,000

Interest payable 2,000

13-10 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
At maturity (July 1), Landscape records payment of the note and
accrued interest as follows.

Notes payable 100,000

Interest payable 2,000
Cash 102,000

13-11 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Zero-Bearing Note Issued
Illustration: On March 1, Landscape issues a $102,000, four-
month, zero-interest-bearing note to Castle National Bank. The
present value of the note is $100,000. Landscape records this
transaction as follows.

Cash 100,000
Notes payable 100,000

13-12 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
If Landscape prepares financial statements semiannually, it
makes the following adjusting entry to recognize interest expense
and the increase in the note payable of $2,000 at June 30.

Interest expense 2,000

Notes payable 2,000

At maturity (July 1), Landscape must pay the note, as follows.

Notes payable 102,000

Cash 102,000

13-13 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
E13-2: (Accounts and Notes Payable) The following are selected
2010 transactions of Darby Corporation.

Sept. 1 - Purchased inventory from Orion Company on account

for $50,000. Darby records purchases gross and uses a
periodic inventory system.

Oct. 1 - Issued a $50,000, 12-month, 8% note to Orion in

payment of account.

Oct. 1 - Borrowed $75,000 from the Shore Bank by signing a 12-

month, zero-interest-bearing $81,000 note.

Prepare journal entries for the selected transactions.

13-14 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Sept. 1 - Purchased inventory from Orion Company on account
for $50,000. Darby records purchases gross and uses a
periodic inventory system.

Sept. 1 Purchases 50,000

Accounts payable 50,000

13-15 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Oct. 1 - Issued a $50,000, 12-month, 8% note to Orion in payment
of account.

Oct. 1 Accounts payable 50,000

Notes payable 50,000

Interest calculation = ($50,000 x 8% x 3/12) = $1,000

Dec. 31 Interest expense 1,000

Interest payable 1,000

13-16 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Oct. 1 - Borrowed $75,000 from the Shore Bank by signing a 12-
month, zero-interest-bearing $81,000 note.

Oct. 1 Cash 75,000

Notes payable 75,000

Interest calculation = ($6,000 x 3/12) = $1,500

Dec. 31 Interest expense 1,500

Notes payable 1,500

13-17 LO 1 Describe the nature, type, and valuation of current liabilities.

 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Current Maturities of Long-Term Debt
Portion of bonds, mortgage notes, and other long-term
indebtedness that matures within the next fiscal year.

Exclude long-term debts maturing currently if they are

to be:

1. Retired by assets accumulated that have not been shown

as current assets,
2. Refinanced, or retired from the proceeds of a new debt
issue, or
3. Converted into ordinary shares.
13-18 LO 1 Describe the nature, type, and valuation of current liabilities.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Short-Term Obligations Expected to Be
Refinanced
Exclude from current liabilities if both of the following
conditions are met:

1. Must intend to refinance the obligation on a long-term

basis.

2. Must have an unconditional right to defer settlement of

the liability for at least 12 months after the reporting date.

13-19
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
E13-4 (Refinancing of Short-Term Debt): The CFO for
Hendricks Corporation is discussing with the company’s chief
executive officer issues related to the company’s short-term
obligations. Presently, both the current ratio and the acid-test ratio
for the company are quite low, and the chief executive officer is
wondering if any of these short-term obligations could be
reclassified as long-term. The financial reporting date is
December 31, 2010. Two short-term obligations were discussed,
and the following action was taken by the CFO.

Instructions: Indicate how these transactions should be reported

at Dec. 31, 2010, on Hendricks’ statement of financial position.

13-20 LO 2
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Short-term obligation A: Hendricks has a $50,000 short-term
obligation due on March 1, 2011. The CFO discussed with its
lender whether the payment could be extended to March 1, 2013,
provided Hendricks agrees to provide additional collateral. An
agreement is reached on February 1, 2011, to change the loan
terms to extend the obligation’s maturity to March 1, 2013. The
financial statements are authorized for issuance on April 1, 2011.

Liability of Refinance Liability due Statement

$50,000 for Issuance
completed payment

Dec. 31, 2010 Feb. 1, 2011 Mar. 1, 2011 Apr. 1, 2011

13-21
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Short-term obligation A: Hendricks has a $50,000 short-
term obligation due on March 1, 2011. The CFO discussed with
its lender whether the payment could be extended to March 1,
2013, provided Hendricks agrees to provide additional collateral.
An agreement is reached on February 1, 2011, to change the
loan terms to extend the obligation’s maturity to March 1, 2013.
The financial statements are authorized for issuance on April 1,
2011.
Since the agreement was not in place as of the reporting
Current Liability
date (December 31, 2010), the obligation should be
of $50,000
reported as a current liability.
Dec. 31, 2010

13-22
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Short-term obligation B: Hendricks also has another short-term
obligation of $120,000 due on February 15, 2011. In its
discussion with the lender, the lender agrees to extend the
maturity date to February 1, 2012. The agreement is signed on
December 18, 2010. The financial statements are authorized for
issuance on March 31, 2011.

Refinance Liability of Liability due Statement

$120,000 for Issuance
completed payment

Dec. 18, 2010 Dec. 31, 2010 Feb. 15, 2011 Mar. 31, 2011

13-23
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Short-term obligation B: Hendricks also has another short-term
obligation of $120,000 due on February 15, 2011. In its
discussion with the lender, the lender agrees to extend the
maturity date to February 1, 2012. The agreement is signed on
December 18, 2010. The financial statements are authorized for
issuance on March 31, 2011.
Non-Current
Refinance Liability of Since the agreement was in place as of
$120,000
completed
the reporting date (December 31, 2010),
the obligation is reported as a non-
Dec. 18, 2010 Dec. 31, 2010
current liability.

13-24
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Dividends Payable
Amount owed by a corporation to its stockholders as a result
of board of directors’ authorization.

 Generally paid within three months.

 Undeclared dividends on cumulative preference shares

not recognized as a liability.

 Dividends payable in the form of additional shares are

not recognized as a liability. Reported in equity.

13-25
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Customer Advances and Deposits
Returnable cash deposits received from customers and
employees.
 May be classified as current or non-current liabilities.

Example: a company that receives deposits from

customers totalling RM16,000 will make
its the following
journal entry:
Cash 16,000
Deposits from customers 16,000

13-26
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
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itbity
ilabiy??
Unearned Revenues
Payment received before delivering goods or rendering
services? Illustration 13-2
Unearned and Earned
Revenue Accounts

13-27
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
BE13-6: Sports Pro Magazine sold 12,000 annual subscriptions
on August 1, 2010, for $18 each. Prepare Sports Pro’s August 1,
2010, journal entry and the December 31, 2010, annual adjusting
entry.

Aug. 1 Cash 216,000

Unearned revenue 216,000
(12,000 x $18)

Dec. 31 Unearned revenue 90,000

Subscription revenue 90,000
($216,000 x 5/12 =
$90,000) LO 2 Explain the classification issues of short-term
13-28
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Sales Taxes Payable
Retailers must collect sales taxes or value-added taxes (VAT)
from customers on transfers of tangible personal property and
on certain services and then remit to the proper governmental
authority.

13-29
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
BE13-7: Dillons Corporation made credit sales of $30,000 which are
subject to 6% sales tax. The corporation also made cash sales
which totaled $20,670 including the 6% sales tax. (a) prepare the
entry to record Dillons’ credit sales. (b) Prepare the entry to record
Dillons’ cash sales.

Accounts receivable 31,800

Sales 30,000
Sales tax payable ($30,000 x 6% = $1,800) 1,800

Cash 20,670
Sales ($20,670  1.06 = $19,500) 19,500
Sales tax payable 1,170

13-30 LO 2
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
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itbity
ilabiy??
Income Tax Payable
Businesses must prepare an income tax return and compute
the income tax payable.

 Taxes payable are a current liability.

 Corporations must make periodic tax payments.

13-31
LO 2 Explain the classification issues of short-term
debt expected to be refinanced.
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
rrerenntt
LLa
itbity
ilabiy??
Employee-Related Liabilities
Amounts owed to employees for salaries or wages are
reported as a current liability.
Other than salary, there are two types of employee-related
payments:
1. Contribution made out of the company’s pocket to a fund,
e.g. Employees Provident Fund (EPF) under a defined
contribution plan.

2. Contribution or payment deducted from the employees’ salary.

E.g.: employees’ contribution to EPF, schedular tax deduction to be paid to the
Inland Revenue Board & other salary deductions.

13-32
Theoretically, at the end of each month, an employer should record these
 What
WhWhaisatatisCurrent
is aaCuCurLiability?
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ilabiy??

Example: Shazan Bhd pays a total salary of RM560,000 for December

2007. The salary is paid on 20 Dec. 2007. Following are the
deductions made from the salary:
 Employees’ contribution to EPF is 10% of the total salary
 Scheduled tax deduction totals RM29,000
 Zakat RM16,000
 Insurance RM13,000
 Payment of loan by employees to the company of RM100,000
 The company is also required to contribute 12% of the total
13-33 amount of salary to EPF. All payments are made in January.
 What
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is aaCuCurLiability?
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ilabiy??
The journal entry made on the pay day is:
Salary expense 560,00
Payables to EPF (employees) 56,000
Employees’ tax payable 29,000
Employees’ Zakat payables 16,000
Employees’ insurance payable 13,000
Loan to employees 100,000
Cash 346,000
To record the 12% contribution to be paid to EPF the following entry is
made at the end of the month:

Salary expense 67,200

Payables to EPF (employer) 67,200

13-34
 What
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is aaCuCurLiability?
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itbity
ilabiy??
Profit-Sharing and Bonus Plans
Payments to certain or all employees in addition to their
regular salaries or wages.

 Bonuses paid are an operating expense.

 Unpaid bonuses should be reported as a current liability.

13-35 LO 3 Identify types of employee-related liabilities.

 Provisions
PPrroovvis
isioionsns
Provision is a liability of uncertain timing or amount.

Reported either as current or non-current liability.

Common types are

► Obligations related to litigation. Uncertainty about
the timing or
► Warrantees or product guarantees. amount of the
future expenditure
► Business restructurings. required to settle
the obligation.
► Environmental damage.

13-36
LO 4 Explain the accounting for different
types of provisions.
 Recognition
RRececooggnitofintioaon
Provision
nooffaa
Provo
rs
P
v io
iosiinn
Companies accrue an expense and related liability for a provision
only if the following three conditions are met:

1. Warrantees or product guarantees.

2. Probable that an outflow of resources will be required to

settle the obligation; and

3. A reliable estimate can be made.

13-37
LO 4 Explain the accounting for different
types of provisions.
 Recognition
RRececooggnitofintioaon
Provision
nooffaa
Provo
rs
P
v io
iosiinn
Recognition Examples
A reliable estimate of the amount of the obligation can be determined.
Illustration 13-4

13-38
LO 4
 Recognition
RRececooggnitofintioaon
Provision
nooffaa
Provo
rs
P
v io
iosiinn
Recognition Examples
Constructive obligation is an obligation that derives from a
company’s actions where:

1. By an established pattern of past practice, published policies,

or a sufficiently specific current statement, the company has
indicated to other parties that it will accept certain
responsibilities; and

2. As a result, the company has created a valid expectation on

the part of those other parties that it will discharge those
responsibilities.

13-39
LO 4 Explain the accounting for different
types of provisions.
 Recognition
RRececooggnitofintioaon
Provision
nooffaa
Provo
rs
P
v io
iosiinn
Recognition Examples
A reliable estimate of the amount of the obligation can be determined.
Illustration 13-5

13-40
LO 4
 Recognition
RRececooggnitofintioaon
Provision
nooffaa
Provo
rs
P
v io
iosiinn
Recognition Examples
A reliable estimate of the amount of the obligation can be determined.
Illustration 13-6

13-41
LO 4
 Measurement of Provisions
MMeasureasurement ofof
PPrroovv
niss
o io
inss
How does a company determine the amount to report
for a provision?

IFRS:

Amount recognized should be the best estimate of the

expenditure required to settle the present obligation.

Best estimate represents the amount that a company

would pay to settle the obligation at the statement of
financial
position date.

13-42
LO 4 Explain the accounting for different
types of provisions.
 Measurement of Provisions
MMeasureasurement ofof
PPrroovv
niss
o io
inss
 Management must use judgment, based on
past or similar transactions, discussions with
experts, and any other pertinent
information.

 Measurement of the liability should consider

the time value of money. Future events that
may have an impact on the measurement
of the costs should be considered.
13-43
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Common Types:
1. 4. Environmental
Lawsuits
2. Warranties 5. Onerous contracts

3. Premiums 6. Restructuring

IFRS requires extensive disclosure related to provisions in the notes to

the financial statements, however companies do not record or report in
the notes general risk contingencies inherent in business operations
(e.g., the possibility of war, strike, uninsurable catastrophes, or a
business recession).

13-44
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Litigation Provisions
Companies must consider the following in determining whether
to record a liability with respect to pending or threatened
litigation and actual or possible claims and assessments.

1. Time period in which the underlying cause of action

occurred.

2. Probability of an unfavorable outcome.

3. Ability to make a reasonable estimate of the amount of

loss.

13-45
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Litigation Provisions
With respect to unfiled suits and unasserted claims and
assessments, a company must determine

1. the degree of probability that a suit may be filed or a claim

or assessment may be asserted, and

2. the probability of an unfavorable outcome.

If both are probable, if the loss is reasonably estimable, and if the

cause for action is dated on or before the date of the financial
statements, then the company should accrue the liability.

13-46
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
BE13-10: Scorcese Inc. is involved in a lawsuit at December 31,
2010. (a) Prepare the December 31 entry assuming it is probable
that Scorcese will be liable for $900,000 as a result of this suit. (b)
Prepare the December 31 entry, if any, assuming it is not probable
that Scorcese will be liable for any payment as a result of this suit.

(a) Lawsuit loss 900,000

Lawsuit liability
900,000

(b) No entry is necessary. The loss is not accrued because it

is not probable that a liability has been incurred at
12/31/10.
13-47
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Warranty Provisions
Promise made by a seller to a buyer to make good on a deficiency
of quantity, quality, or performance in a product.

If it is probable that customers will make warranty claims and a

company can reasonably estimate the costs involved, the
company must record an expense.

13-48
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Warranty Provisions
Two basic methods of accounting for warranty costs:

Cash-Basis method
► Expense warranty costs as incurred, because

1. it is not probable that a liability has been

incurred, or

2. it cannot reasonably estimate the amount of

the liability.

13-49
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Warranty Provisions
Two basic methods of accounting for warranty costs:

Accrual-Basis method
► Charge warranty costs to operating expense in the
year of sale.
► Method is the generally accepted method.
► Referred to as the expense warranty approach.

13-50
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
BE13-13: Streep Factory provides a 2-year warranty with one of its
products which was first sold in 2010. In that year, Streep spent
$70,000 servicing warranty claims. At year-end, Streep estimates that
an additional $400,000 will be spent in the future to service warranty
claims related to 2010 sales. Prepare Streep’s journal entry to record
the $70,000 expenditure, and the December 31 adjusting entry.

2010 Warranty expense 70,000 Cash

Warranty expense 400,000 Warranty 70,000

12/31/10 liability
400,000

13-51
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Premiums and Coupons
Companies should charge the costs of premiums and coupons
to expense in the period of the sale that benefits from the
plan.

Accounting:
 Estimate the number of outstanding premium offers that
customers will present for redemption.
 Charge cost of premium offers to Premium Expense and
credits Premium Liability.

13-52
LO 4 Explain the accounting for different
types of provisions.
 Common
CCommommTypes
oonnTyof TypProvisions
pesesooff
PPrroovvs
isio
i oi nsns
Illustration: Fluffy Cakemix Company offered its customers a large
non-breakable mixing bowl in exchange for 25 cents and 10 boxtops.
The mixing bowl costs Fluffy Cakemix Company 75 cents, and the
company estimates that customers will redeem 60 percent of the
boxtops. The premium offer began in June 2011 and resulted in the
transactions journalized below. Fluffy Cakemix Company records
purchase of 20,000 mixing bowls as follows.

Inventory of Premium Mixing Bowls 15,000

Cash 15,000
$20,000 x .75 = $15,000

13-53
LO 4 Explain the accounting for different
types of provisions.
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Illustration: The entry to record sales of 300,000 boxes of cake mix
would be: 300,000 x .80 = $240,000

Cash 240,000
Sales
240,000

Fluffy records the actual redemption of 60,000 boxtops, the receipt

of 25 cents per 10 boxtops, and the delivery of the mixing bowls
as follows.
Cash [(60,000 / 10) x $0.25] 1,500
Premium Expense 3,000
Inventory of Premium Mixing Bowls 4,500
Computation: (60,000 / 10) x $0.75 = $4,500
13-54 LO 4
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Illustration: Finally, Fluffy makes an end-of-period adjusting entry
for estimated liability for outstanding premium offers (boxtops) as
follows.

Premium Expense 6,000 Premium

Liability 6,000

13-55 LO 4
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Environmental Provisions
A company must recognize an environmental liability
when it has an existing legal obligation associated with the
retirement of a long-lived asset and when it can reasonably
estimate the amount of the liability.

13-56
LO 4 Explain the accounting for different
types of provisions.
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Environmental Provisions
Obligating Events. Examples of existing legal obligations, which
require recognition of a liability include, but are not limited to:
► Decommissioning nuclear facilities,
► Dismantling, restoring, and reclamation of oil and gas
properties,
► Certain closure, reclamation, and removal costs of mining
facilities,
► Closure and post-closure costs of landfills.

13-57
LO 4 Explain the accounting for different
types of provisions.
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Environmental Provisions
Measurement. A company initially measures an
environmental liability at the best estimate of its future costs.

Recognition and Allocation. To record an environmental liability

a company includes

► the cost associated with the environmental liability in the

carrying amount of the related long-lived asset, and

► records a liability for the same amount.

13-58
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types of provisions.
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Illustration: On January 1, 2010, Wildcat Oil Company erected
an oil platform in the Gulf of Mexico. Wildcat is legally required to
dismantle and remove the platform at the end of its useful life,
estimated to be five years. Wildcat estimates that dismantling and
removal will cost $1,000,000. Based on a 10 percent discount rate,
the fair value of the environmental liability is estimated to be
$620,920 ($1,000,000 x .62092). Wildcat records this liability on Jan.
1, 2011 as follows.

Drilling platform 620,920 Environmental

liability
620,920
13-59
LO 4 Explain the accounting for different
types of provisions.
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Illustration: During the life of the asset, Wildcat allocates the asset
retirement cost to expense. Using the straight-line method, Wildcat
makes the following entries to record this expense.

December 31, 2011, 2012, 2013, 2014, 2015

Depreciation expense ($620,920 / 5) 124,184

Accumulated depreciation
124,184

13-60
LO 4 Explain the accounting for different
types of provisions.
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Illustration: In addition, Wildcat must accrue interest expense
each period. Wildcat records interest expense and the related
increase in the environmental liability on December 31, 2011, as
follows.

December 31, 2011

Interest expense ($620,092 x 10%) 62,092
Environmental liability
62,092

13-61
LO 4 Explain the accounting for different
types of provisions.
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Illustration: On January 10, 2016, Wildcat contracts with Rig
Reclaimers, Inc. to dismantle the platform at a contract price of
$995,000. Wildcat makes the following journal entry
to record settlement of the liability.

January 10, 2016

Environmental liability 1,000,000

Gain on settlement of liability
5,000
Cash
995,000

13-62
LO 4 Explain the accounting for different
types of provisions.
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Onerous Contract Provisions
“The unavoidable costs of meeting the obligations exceed the
economic benefits expected to be received.”

The expected costs should reflect the least net cost of exiting from
the contract, which is the lower of

1. the cost of fulfilling the contract, or

2. the compensation or penalties arising from failure to fulfill

the contract.

13-63
LO 4 Explain the accounting for different
types of provisions.
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Onerous Contract Provisions
Illustration: Sumart Sports operates profitably in a factory that it
has leased and on which it pays monthly rentals. Sumart decides to
relocate its operations to another facility. However, the lease on the
old facility continues for the next three years. Unfortunately,
Sumart cannot cancel the lease nor will it be able to sublet the
factory to another party. The expected costs to satisfy this onerous
contract are €200,000. In this case, Sumart makes the following
entry.

Loss on lease contract 200,000 Lease contract

liability
13-64
LO 4 Explain the accounting for different
200,000
types of provisions.
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Onerous Contract Provisions
Assume the same facts as above for the Sumart example and the
expected costs to fulfill the contract are €200,000. However,
Sumart can cancel the lease by paying a penalty of €175,000. In
this case, Sumart should record the liability as follows.

Loss on lease contract 175,000

Lease contract liability
175,000

13-65
LO 4 Explain the accounting for different
types of provisions.
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Restructuring Provisions
Restructurings are defined as a “program that is planned and
controlled by management and materially changes either

1. the scope of a business undertaken by the company;

or

2. the manner in which that business is conducted.”

Companies are required to have a detailed formal plan for the restructuring
and to have raised a valid expectation to those affected by implementation
or announcement of the plan.

13-66
LO 4 Explain the accounting for different
types of provisions.
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Restructuring Provisions
IFRS provides specific guidance related to certain costs and losses
that should be excluded from the restructuring provision.

Illustration 13-9

13-67
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types of provisions.
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Restructuring Provisions
Illustration 13-10

13-68
LO 4
 Disclosures
DisclDiscloosuresRelated
sures RTo
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A company must provide a reconciliation of its beginning to
ending balance for each major class of provisions, identifying
what caused the change during the period.

In addition,
► Provision must be described and the expected timing of
any outflows disclosed.
► Disclosure about uncertainties related to expected
outflows as well as expected reimbursements should be
provided.

13-69
LO 4 Explain the accounting for different
types of provisions.
 Contingent
CoConnttiningen Liabilities
gentt
LLiiababilliiteeitiss
Contingent liabilities (MFRS 137) are not recognized in the
financial statements because they are

1. A possible obligation (not yet confirmed),

2. A present obligation for which it is not probable that

payment will be made, or

3. A present obligation for which a reliable estimate of the

obligation cannot be made.

13-70
LO 5 Identify the criteria used to account for and
disclose contingent liabilities and assets.
 Contingent
CoConnttiningen Liabilities
gentt
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Contingent Liabilities Guidelines
Illustration 13-12

13-71
LO 5 Identify the criteria used to account for and
disclose contingent liabilities and assets.
 Contingent Assets
CoConnttinging enentt
AAssses
tstes
A contingent asset is a possible asset that arises from past
events and whose existence will be confirmed by the occurrence
or non-occurrence of uncertain future events not wholly within the
control of the company. Typical contingent assets are:

1. Possible receipts of monies from gifts, donations, bonuses.

2. Possible refunds from the government in tax disputes.

3. Pending court cases with a probable favorable outcome.

Contingent assets are not recognized on the statement of financial position.

13-72
LO 5 Identify the criteria used to account for and
disclose contingent liabilities and assets.
 Contingent Assets
CoConnttinging enentt
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Contingent Asset Guidelines
Illustration 13-14

Contingent assets are disclosed when an inflow of economic

benefits is considered more likely than not to occur (greater than
50 percent).

13-73
LO 5 Identify the criteria used to account for and
disclose contingent liabilities and assets.
 Presentation ofioCurrent
PPrresentatesentat ionn ooff Liabilities
CuCurrrerennttLLteia
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Presentation of Current Liabilities
 Usually reported at their full maturity value.
 Difference between present value and the maturity
value is considered immaterial.

13-74 LO 6 Indicate how to present and analyze liability-related information.

 Presentation ofioCurrent
PPrresentatesentat ionn ooff Liabilities
CuCurrrerennttLLteia
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Illustration 13-15

13-75 LO 6 Indicate how to present and analyze liability-related information.