IAS 37 is the International Accounting Standard (IAS) for guiding when recognising a provision, contingent liabilities and contingent assets. It requires businesses only to recognise liabilities and assets that meet specific criteria to avoid financial manipulation. Particularly International Accounting Standard 37, IFRS requires organisations to provide for present obligations via provisions while reporting contingent liabilities and contingent assets according to their likelihood of occurrence. IAS 37 decision tree assists entities in deciding whether an obligation is to be recognised, disclosed, or disregarded.
What is IAS 37?
IAS 37 provisions, contingent liabilities, and contingent assets are accounting standards that ensure entities correctly recognise and measure uncertain liabilities and assets.
This IAS aims at the reliability of the financial statement by recognising provisions based on specific criteria. Stop companies from using profits when estimating either under- or over-estimating liabilities. Uncertain future obligations and assets are recognised and treated consistently.
Financial instruments covered by IFRS 9,19 IAS 37 do not apply to. Taxes on income (IAS 12 – taxes on income). Leases (covered by IFRS 16). However, this IAS provides special guidance for onerous contracts.
IAS 37 is a key standard for FR candidates. Candidates are required to learn the three key criteria for a provision, as they are likely to have to explain these in an exam. Careful attention must also be paid to the calculations involved in the recording of a provision, particularly those around long-term provisions and including them at present value. If candidates are able to do this, then provisions can be an area where they can score highly in the FR exam.
Provisions
IAS 37 defines a provision as an uncertain timing or amount of liability for which recognition is appropriate when certain conditions are fulfilled. A provision should be accounted for by a company if there is a present obligation from past events, a probable flow of resources to clear it, and a credible estimate of the amount.
- Legal Provisions: Reserved for possible liabilities in outstanding lawsuits with a likely negative verdict. Legal risks need to be evaluated by the companies, and provisions must be recognised based on the probability of settlement.
- Restructuring Provisions: Charges related to employee layoffs and downsizing. Businesses must accurately estimate severance payments and other restructuring costs.
- Warranty Provisions: Provides coupon for estimated repair or replacement cost for products under warranty. Accurate amounts enable companies to mitigate customer claims and ensure financial stability.
- Environmental Provisions: Reserve for pollution remediation costs and environmental liabilities. Companies must follow environmental regulations and project future remediation costs.
A provision is a liability of uncertain timing or amount. The liability may be a legal obligation or a constructive obligation. A constructive obligation arises from the entity’s actions, through which it has indicated to others that it will accept certain responsibilities, and as a result has created an expectation that it will discharge those responsibilities. Examples of provisions may include: warranty obligations; legal or constructive obligations to clean up contaminated land or restore facilities; and obligations caused by a retailer’s policy to make refunds to customers.
Contingent Liabilities
Contingent liability is a potential obligation arising from past transactions that remains subject to certain uncertain future events. It isn’t recorded in accounts until specific conditions are met.
Such guarantees are known as contingent liabilities and involve uncertainty as to whether they will be realized, as they depend on future events that are not within the control of the entity. They occur when it is unsure whether the company has done something wrong, for example, in ongoing lawsuits. If it is not likely that a settlement will be made or if the amount cannot be estimated reliably, then the liability is considered contingent and is not reported on the financial statements.
Unlike provisions, contingent liabilities are not captured in the balance sheet because they are uncertain. However, if the likelihood of an outflow of economic resources in such circumstances is reasonably possible, companies must disclose them in the notes to the financial statements.» Where the prospect of a settlement is remote, no such disclosure is required. This operation keeps things clear while not making unnecessary changes to finances.
Contingent Assets
A contingent asset is an economic asset that can be obtained due to past incident but is dependent on future incidents. Unless the realisation of the asset is virtually a certainty it is not reflected as such in the balance sheet.
Contingent assets are potential assets that rely on uncertain future occurrences outside the entity’s control. They are not accounted for in financial statements due to their uncertainty of realisation. However, when there is more probability than not of an inflow of economic benefits, companies need to disclose the contingent asset within the notes in the financial statements.
As uncertainty is reduced and the inflow of benefits becomes virtually certain, that asset is no longer contingent and must be recognised in the statement of financial position. This keeps the books straight while ensuring transparency in financial reporting. Appropriate disclosures of contingent assets provide investors and stakeholders with information about potential future income that could influence a firm’s balance sheet.
Application of Recognition and Measurement Rules
Recognition, disclosure and non-recognition of an item can be determined through the IAS 37 decision tree. Using the International Accounting Standard 37 decision tree ensures companies apply consistent accounting practices.
| Question | Action |
| Is there a present obligation from a past event? | If no, Ignore; If yes, Continue. |
| Is the outflow of resources probable (>50%)? | If no, Disclose it as a contingent liability; If yes, Recognize as a provision. |
| Can the amount be reliably estimated? | If no, disclose it as a contingent liability; if yes, recognise it as a provision. |
Disclosure Requirements Under IAS 37
Under IAS 37, companies must disclose individually those provisions, contingent liabilities and contingent assets in order to improve transparency in financial reporting. Such disclosures allow investors and other stakeholders to assess potential financial liabilities and future obligations that might impact a company’s balance sheet.
Key Disclosures for Provisions
These companies must clarify the nature of their obligation and the expected settlement timing to avoid ambiguity. The carrying amount of provisions and any changes during the reporting period must also be disclosed. Companies must describe the risks or uncertainties that could impact the provision amount.
Disclosure of the discount rate used is also required if provisions are recognised at a discounted amount. This guidance aims to provide investors and stakeholders insight into the financial implications and potential future cash outflows associated with provisions.
Key Disclosures for Contingent Liabilities
A contingent liability disclosure should describe the nature of the obligation and provide an estimate of the total amount of the liability. In an ideal world, an estimate of the financial implications would be provided to guide investors on how to weigh risks. Gracefully hedge any doubt about the outcome (and litigation, more broadly).
Further, if any potential actions or developments could have an effect on the obligation, this information should be disclosed by businesses. Honest information about contingent liabilities can help stakeholders assess the potential threat to the future financial stability of the entity.
Key Disclosures for Contingent Assets
The firm should provide a brief description of the contingent asset and its nature and cause. With any such estimate available or made, it should be disclosed in a way that enables stakeholders to be able to assess potential future benefits. Businesses also need to reflect the likelihood of realisation for investors to understand when the asset may appear in the financial statements.
Relevance to ACCA Syllabus
IAS 37 is vital for ACCA candidates since it deals with provisions, contingent liabilities, and assets. It is a vital area in Financial Reporting (FR) and Strategic Business Reporting (SBR) exams, where students must exercise judgment when recognising liabilities and appreciate how uncertainties affect financial statements. Knowledge of International Accounting Standard 37 assists candidates in using suitable accounting treatment on provisions and disclosures.
IAS 37 ACCA Questions
Q1: International Accounting Standard 37 deals primarily with which of the following?
A) Revenue recognition
B) Accounting for leases
C) Provisions, liabilities and assets contingent.
D) Financial instruments
Ans: C) Provisions, contingent liabilities, and contingent assets
Q2: International Accounting Standard 37 outlines the conditions under which a provision should be recognised.
A) Where there is a possible, but not probable obligation
B) If there is a present obligation that is probable of resulting in an outflow of resources
C) A company wishes to smooth earnings
D) A future event is uncertain but could result in a liability
Ans: B) In the situation exist a present obligation, and an outflow of resources is probable.
Q3: Which of the following does NOT fall under International Accounting Standard 37 provisions?
A) Warranties of the products sold
B) An announced but unimplemented restructuring plan
C) Environmental restoration expenses incurred from previous activities
D) A lawsuit where a payment is likely
Ans: B) Unimplemented restructuring plan
Q4: A contingent liability is to be:
A) Identified through the financial statements
B) Informed through the notes when it is feasible yet unlikely
C) Pass over until it becomes a provision
D) Included as revenue
Ans: B) If it is possible but not probable, then disclosed in the notes
Q5: What is the main distinction between a provision and a contingent liability as per IAS 37?
A) Contingent liabilities are disclosed, whereas provisions are recognized in the financial statements if there is probability.
B) Provisions are not included in the financial statements while contingent liabilities are present
Financial statements are not affected by provisions and are impacted by contingent liabilities.
D) Provisions and contingent liabilities are same
Ans: A) Provisions are recognized in financial statements, contingent liability when probable disclosed.
Relevance to US CMA Syllabus
IAS 37 is relevant to financial decision-making and risk identification for CMA aspirants. Managers should examine provisions and contingent liabilities during budget preparation, forecast expenditures, and make financial decisions. Effective application of International Accounting Standard 37 increases the transparency of financials and corporate governance.
IAS 37 US CMA Questions
Q1: What is the influence of e-governance on corporate governance in terms of investment decision making?
A) To ensure transparency and investor protection
B) By increasing investment fraud risks
C) Using the computer, to rid ourselves of the need for financial analysts
D) Deregulating corporate entities
Ans: A) By maintaining transparency and protecting investors
Q2: When it comes to risk assessment in investment management, which digital technology is the most helpful in e-governance?
A) Big Data Analytics and Artificial Intelligence
B) Investment analysis in Virtual Reality
C) Digital marketing tools
D) Social media influencers
Ans: A) AI and Big Data Analytics
Q3: One of the advantages of e-governance regarding financial risk management?
A) Improve real-time monitoring of financial risks
B) Lower market competition
C) Removing investment regulations
D) Arrayed financial speculation
Ans: A) Improving financial risks real-time monitoring
Q4: Does e-governance enhance compliance with ethical equity investments?
A) Through offering automated regulatory reporting systems
B) By raising capital in less-regulated markets
C) By limiting investor rights and protections
D) They avoid having to do due diligence on their own.
Ans: A) Through automated regulatory reporting systems
Q5 What is one major risk of e-governance in financial markets?
A) Cybersecurity risks and virtual fraud
They range from A) Decrease in financial market efficiency
C) Reduced participation of investors
D) They are all for removing regulations on financial markets
Ans: A) Digital Fraud and Cybersecurity Threats
Relevance to US CPA Syllabus
IAS 37 is applicable to CPA candidates, particularly in the FAR exam, since it conforms to US GAAP treatment of contingencies (ASC 450). Knowledge of accounting for provisions and disclosing contingent liabilities ensures conformity in financial reporting and audit processes.
IAS 37 US CPA Questions
Q1: What is one of the core features of an organization with bureaucratic leadership?
Encourathees creativity and risk-taking
B) Puts emphasis on rigid rulesorganizationres
C) Employees forced into making decisions
D) Permits decisions based on personal judgment
Ans: B) Emphasis on rules and procedures
Q2: What are the effects of bureaucratic leadership on financial reporting of an organization?
A) It provides safety to adhere to the financial regulations
B) It brings more order to your financial reports
C) It has leniency on accounting policies
D) This downplays the significance of audit trails
Ans: A) It prevents service-based financial institutions
Q3: Bureaucratic leadership typically requires what type of decision-making:
A) Decentralized and flexible
B) Dependency on cooperation and team work
C) Top down hierarchical and centralized
D) Emphasis on risk-taking and innovation
Ans: C) Centralized with a defined hierarchy
Q4: What is one disadvantage of bureaucratic leadership in financial management?
A) Non-compliance with laws and regulations
B) Organizational Structure Stagnation
C) Taking too much risk in decision-making
D) Lax control of financial policies
Answer: B) In flexibility because of inflexible structures
Q5: Why bureaucratic leadership is a key factor in corporate governance?
A) It provides organizations with a way of ignoring compliance problems
B) It helps you build and show consistency and accountability
Answer: C) It precludes compliance with financial policies
D) No audit by third parties needed
Ans: B) It is a way to keep it consistent and in accountability
Relevance to CFA Syllabus
CFA candidates should be aware of IAS 37 to analyse financial statements and determine company exposure to risk. Provisions and contingent liabilities influence a company’s financial health and value, influencing investment choices and financial analysis. International Accounting Standard 37 plays a pivotal role in corporate obligations and liabilities analysis.
IAS 37 CFA Questions
Initial Queries: Q1: [Read more] Why IAS 37 is significant for financial analysts?
A) Understanding uncertain liabilities can evaluate how it affects a company’s financial position
B) No risk assessment required
C) Enables firms to game earnings
D) It forces companies to put all future expenses on the balance sheet as a liability.
B) Option A It aids in measuring any contingent liabilities of a business on its financial conditions
Q2: What is the effect of IAS 37 on the analysis of financial ratios?
A) It impacts leverage and liquidity ratios once provisions are recognized
B) It has no impact on financial ratios
C) It decreases the amount of financial disclosures
D) It enables all liabilities to be classified as non-current liabilities
Ans: A) It alters leverage and liquidity ratios as provisions get recognised
Q3: How do contingent liabilities impact valuation models?
A) It generates expected future cash outflows which influence the valuation estimates
B) They do not affect valuation
C) They elevate a company’s net income
D) They are never considered capital expenditures
Ans: A) They generate prospective future cash outlay which influences fields estimates of valuation
Q4: Under International Accounting Standard 37, how should an analyst normalize financial statements for companies with substantial contingent liabilities?
A) Ignore them as they are not recognised in the financial statements
B) Revise valuation models to reflect possible future cash outflows
C) Do anything you want with them to boost ratios
D) Treat them as if they will not arise and take them out of the analysis
Ans: A) Intermediaries guide in valuating firms and in assessing risk-adjusted discounts.
Q5: If a company tends to understate provisions in its financial statements, how might this influence a analyst’s evaluation?
A) It can exaggerate profits and underestimate debt
B) Financial analysis will not be impacted
C) It would raise the company’s credit rating
D) It decrease asset turnover ratios
Ans: A) It could overstated profitability and understated liabilities
