Question

The Australian Securities and Investment Commission (ASIC) is taking Mountain Ltd to court for breach of the legislation under the Corporations Act 2001 in the 2018 financial year. The matter is still ongoing, and the company does not expect the matter to be resolved until November 2020. 1f found liable, the fines could be between $200,000 and $2,000,000. The company is somewhat confident that they will not be fined the full $2,000,000 but they are uncertain about the outcome. The company wants to ensure that they have reported the matter correctly in the financial accounts for the year ended June 2020. The date is August 1 and the directors have not signed off on the financial accounts. 1. Discuss whether an adjustment in the financial accounts is required or a note disclosure, give reason for your answer. 2. Discuss the effect the scenario has on the accounts and how they are presented.

Answer 1

Introduction

This question revolves around whether the event should be treated as provision or contingent liability. Both provisions and contingent liabilities are covered under IAS 37: Provisions, contingent liabilities and contingent assets.

Concepts/definitions:

Provisions: Provisions are liabilities of uncertain timing or amount. And liability is present obligation arising from past event and whose settlement results in outflow of resources.

Contingent Liability: A possible obligation arising from past event and which existence is based on occurrence and non- occurrence of uncertain future event which is not in control of any company.

Conclusion, IAS 37 distinguishes both above terms with term “contingent” i.e. existence of event based on occurrence/non-occurrence of uncontrolled future event.

Solution

In the above question, the company is uncertain about the outcome of the uncontrolled future event (litigation case). Thus, it will be classified as contingent liability.

"Reason why it was not classified as provision, because the probability of losing the litigation (outcome of future event) is uncertain and the amount of liability cannot be easily estimated."

Accounting Treatment for contingent Liability

Followings are disclosed under notes to financial statement as a separate note;

1. A brief description of nature of contingency should be disclosed

2. Possibility and estimate of its potential financial impact.

3. Uncertainties w.r.t. its final outcome