Question

Film company A and investment company B agree to collaborate on the production and commercialization of a film. No new legal entity is created. Investment company B commits to provide 6 million USD funding and will receive 1 percent of gross cinema receipts for two years after the film is first released. Because of this arrangement, if the film is unsuccessful, investment company B may receive less than the amount it provided. However, if the film is highly successful, investor B may receive significantly more than the 50 million USD. Investment company B has agreed on the project plan and the budget of the film but does not participate in any of the ongoing production or commercialization decisions. Film company A must make best efforts to complete and market the film within the budget. The estimated revenues of the film after it’s release in year 1 are 700 million USD and in year 2 are 200 million USD.

How does Film company A have to account for the arrangement with investment company B?

Answer 1

Definition of Liability:

A liability is a present obligation of the enterprise arising from past events, the settlement of which is expected to result in an outflow from the enterprise of resources embodying economic benefits

Recognition criteria for Liability:

• The outflow of resources embodying economic benefits from the entity is probable.
• The cost / value of the obligation can be measured reliably.

Here the Film company has present obligation to repay the amount which has arose from the past event i.e receipt of funds from Investment Company B.

Journal entry for recognition of Liability
Date	Particulars		Debit ( $ )	Credit ( $ )
1	Cash A/c	Dr	60,00,000
	To Loan / Finance from Investment Company B			60,00,000

Any difference in final settlement shall be adjusted to Profit and Loss A/C

Recognition of a provision:

An entity must recognize a provision if:

• a present obligation (legal or constructive) has arisen as a result of a past event (the obligating event),
• payment is probable ('more likely than not'), and
• the amount can be estimated reliably.

S.No	Particulars	Value ( $ in Millions )
A	Estimated Sales In Year 1	700
B	Estimated Sales In Year 2	200
C	Total	900
D	Commission (1% of Sales) ( C*1% )	9
E	Liability already recognised	6
F	Provision to be created for ( D-E )	3

Journal entry for recognition of Provision
Date	Particulars		Debit ( $ )	Credit ( $ )
1	Profit and Loss A/C	Dr	30,00,000
	To Provision for Loan / Finance from Investment Company B			30,00,000