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Western Oil Company had several contingent liabilities on December 31, 2020
Western Oil Company had several contingent liabilities on December 31, 2020. The auditor obtained the following brief description of each liability.
1. In May 2020, Zarraga bought action against the company for polluting the Zarraga River with its waste products.
It is probable that Zarraga will be successful but the amount of damages Western Oil Company might have to pay should not exceed P1,500,000
2. A personal injury liability suit for P500,000 was brought against Western Oil Company in December 2020.
The management and legal counsel of Western Oil Company concluded that it is not probable that Western Oil Company will be responsible for damages and that P200,000 is the best estimate of the damages.
Required:
Does each situation needs to be accrued as provision on December 2020? Why or why not? Support you answer in accordance with PAS 37.
Expert Solution
Answer:
As per PAS 37 a provision should be recognised when
· There is a present obligation as a result of past events
· It is probable that outflow of resources embodying economic benefits will be required to settle the obligation
· A reliable estimation of the obligation amount can be made
Applying above recognition criteria as on December, 2020
1) Provision should be recognised
It is probable that there will be outflow of cash and reliable estimate of the obligation amount is available
2) Provisions should not be recognised
It is not probable that there will be outflow of cash and hence no provison is needed even though reliable estimate is available.
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