Four
independent situations follow.
Situation
1: During 2011, Sugarpost Inc. became involved in a tax dispute with the CRA.
Sugarpost's lawyers have informed management that Sugarpost will likely lose
this dispute. They also believe that Sugarpost will have to pay the CRA between
$900,000 and $1.4 million. After the 2011 financial statements were issued, the
case was settled with the CRA for $1.2 million.
Instructions
(a)
What amount, if any, should be reported as a liability for this contingency as
at December 31, 2011, assuming that Sugarpost follows private enterprise
GAAP?
(b)
Repeat part (a) assuming that Sugarpost follows proposed IFRS.
Situation
2: Toward the end of Su Li Corp.'s 2011 fiscal year, employer-union talks broke
off with the wage rates for the upcoming two years still unresolved. Just
before the newyear, however, a contract was signed that gave employees a 5%
increase in their hourly wage. Su Li had expended $1.2 million in wages on this
group of workers in 2011.
Instructions
Prepare
the entry, if any, that Su Li Corp. should make at December 31, 2011. Briefly
explain your answer.
Situation
3: On October 1, 2011, the provincial environment ministry identified
Jackhammer Chemical Inc. as a potentially responsible party in a chemical
spill. Jackhammer's management, along with its legal counsel, have concluded
that it is likely that Jackhammer will be responsible for damages, and a
reasonable estimate of these damages is $5 million.
Jackhammer's
insurance policy of $9 million has a deductible clause of $500,000.
Instructions
(a)
Assuming private enterprise GAAP is followed, how should Jackhammer Chemical
report this information in its financial statements at December 31, 2011?
(b)
Briefly identify any differences if Jackhammer were to follow existing IFRS.
Situation
4: Etheridge Inc. had a manufacturing plant in Bosnia that was destroyed in the
civil war. It is not certain who will compensate Etheridge for this
destruction, but Etheridge has been assured by Bosnian government officials
that it will receive a definite amount for this plant. The compensation amount
will be less than the plant's fair value, but more than its carrying amount.
Instructions
How
should the contingency be reported in the financial statements of Etheridge
Inc. under private entity GAAP?
ANSWER
1. (a)
The CICA Handbook for Private Enterprises
section 3290 requires that, when some amount within the range appears at
the time to be a better estimate than any other amount within the range, that
amount be accrued. When no amount within the range is a better estimate than
any other amount, the dollar amount at the low end of the range is accrued and
the dollar amount of the high end of the range is disclosed. Since the
information indicates that it is likely that a liability has been incurred at
December 31, 2011, and a range of possible amounts can be reasonably
determined, the criteria for recording a liability are met. In this case,
therefore, Sugarpost Inc. would report a liability of $900,000 at December 31,
2011.
(b)
Under the Exposure Draft of Proposed
Amendments to IAS 37 Provisions, Contingent Liabilities and Contingent
Assets, the term “contingent liabilities” is eliminated. This is based on
the fact that either a situation results in a liability or it does not; a
contingency relates to a future event, not whether the obligation exists at the
reporting date. Liabilities can arise only from unconditional (or
non-contingent) obligations. Uncertainty about the amounts that might be
payable in the future is taken into account in the measurement of the
liability, not its existence. If a liability is recognized, it is measured, and
it is the measurement that takes into account the uncertainties that exist. In
this case, it is apparent that there is an unconditional liability and thus
Sugarpost Inc. would report a liability at the expected value of the outcomes
at December 31, 2011 (not at the $900,000 minimum amount as discussed in part
(a) for private enterprises GAAP).
2. Su
Li Corp. would not be required to make any entry. The wage increase is for the
coming two years and does not relate to the current or prior years.
3. (a)
The loss should be accrued since both
criteria (it is likely that a loss is incurred and the amount of the loss can
be reasonably determined) for recording the contingency are met. Given that the
loss is covered by insurance, except for the $500,000 deductible, only the
$500,000 should be accrued.
(b) Under current IFRS
requirements, the recognition criterion used to determine the chance of
occurrence of a confirming future event is “probable,” which is interpreted to
mean “more likely than not.” This is a somewhat lower hurdle than the “likely”
required under private enterprise standards. If the amount cannot be measured
reliably, no liability is recognized under IFRS either; however, the standard
indicates that it is only in very rare circumstances that this would be the
case. If recognized, IAS 37 requires the best estimate and an “expected value”
method to be used to measure the liability. As in part (a) above, this would be
the $500,000 deductible.
4. This
is a gain contingency because the amount to be received will be in excess of
the carrying amount of the plant. Under private enterprise GAAP, gain
contingencies are not recorded and are disclosed in the notes only when the
probabilities are high that a gain contingency will become reality.
