Question

For cases regarding provision, contingent liabilities given below:

Case 01 -Orange Co allows customers to return faulty goods within 14 days of purchase. At 31stDec 2017 a provision of OMR 32,500 was made for sales returns. At 31st Dec 2018, the provision was re-calculated and should now be OMR 38,000.

Case 02 – In the year 2019 the company made some modification to the product and now it is assuming that the ratio of faulty product will reduce considerably. That will reduce the provision requirements to OMR 35,000.

Case 03 – Classic Co sells goods with a one-year warranty and had a provision for warranty claims of OMR 34,000 at 31st Dec 2018. During the year ended 31st December 2019, OMR 13,000 in claims were paid to customers. On 31st December 2019, Classic Co estimated that the following claims will be paid in the following year:

Scenario	Profitability	Anticipated cost
Worst case	5%	$ 70,000
Best case	20%	$ 14,000
Most likely	75%	$ 30,000

Question

Using information given in above cases, you are required to:

A. Compute the amount of provision that should be recognized in Orange Co’s statement ofprofit or loss for the year to 31st Dec 2018 in respect of the provision?

B. Compute the amount of provision that should be recognized in Orange Co’s statement ofprofit and loss for the year to 31st Dec 2019 in respect of the provision?

C. What amount should Classic company record in the statement of profit or loss for the year ended 31st December 2019 in respect of the provision?

D. Analyze the key concepts about Provisions, Contingent Liabilities and Contingent Assets in accordance to IAS 37. Clearly stating whether it should be recognized in financial statement or disclosure as notes to accounts. Enhance your answer by giving appropriate examples.

Answer 1

	Orange Co
A	Details	Amt $
1	Required OMR Provision at Dec 31,2018	$                   38,000
2	Less Opening OMR Provision Jan 1 2018	$                   32,500
3	OMR Provision to be recognized in P/L A/C for 2018 =1-2	$                     5,500

B	Details	Amt $
1	Required OMR Provision at Dec 31,2019	$                   35,000
2	Less Opening OMR Provision Jan 1 2019	$                   38,000
3	OMR Provision to be recognized in P/L A/C for 2019 =1-2	$                   (3,000)

	Classic Co
	Scenario	Probability	Anticipated cost	Probability weighed Anticipated cost
	Worst case	5%	$          70,000	$               3,500
	Best Case	20%	$          14,000	$               2,800
	Most Likely	75%	$          30,000	$             22,500
	Most Probable Cost of warranty			$             28,800

C	Details	Amt $
1	Required OMR Provision at Dec 31,2019	$                   28,800
2	Opening OMR Provision Jan 1 2018	$                   34,000
3	Less: Claims paid in 2019	$                   13,000
4	Remaining amount is Opening Provision=2-3	$                   21,000
5	Additional Provision to be debited to P/L Ac in 2019=1-4	$                     7,800

IAS 37: Contingent Liability and Asset :

Contingent Liability is a probable obligation due to some past events which may or may not arise depending on some future events.

A Provision for contingent liability needs to be recognized only when there is a present obligation has arisen with respect to a past event, the payment of obligation is probable and payment can be reliably ascertained.

If it is more likely than not that a present obligation exists , then the Contingent Liability needs to be disclosed .

If the possibility of a present obligation is remote , no disclosure is required.

For example , there is a Patent Law suit against the company , there is a recent judgement by court that implies a settlement payment upcoming and the amount can be determined reliably , then a provision needs to be made.

If the court proceedings indicate that the verdict will most likely than not result in a penalty , then a contingent Liability to be disclosed.

If there is a remote chance that the verdict will go against the company, no disclosure is needed.

Contingent Asset :

A possible asset arising from past events and its existence or non existence depends on some future events happening or not happening.

As per IAS 37, Contingent Assets should not be recognized, only a disclosure can be made when inflow of economic benefits are probable .