Measurement Guidance

The IASB staff introduced the first draft of possible application guidance to accompany the measurement requirements of proposed revisions to IAS 37 Provisions, Contingent Liabilities and Contingent Assets.

The Board did not make any real progress, and it was evident that they were still divided as to their understanding of 'transfer' and 'settlement'; the notion of 'rational' actions; and the measurement attribute being applied.

Some Board members thought that they had decided (in January 2008) that 'settlement' implied that there was a counterparty. Other Board members noted that, in some cases, there is an obligation but no counterparty, often because the obligation is imposed by stature or as a condition of a mineral resource licence.

Board members noted that, for some liabilities, it was not possible to transfer the liability and that the only 'rational' action for the entity would be to discharge the obligation itself (which challenged the 'settlement with counterparty' understanding noted above). Environmental remediation obligations were cited as a good example for such liabilities. Other Board members expressed unease with the suggested 'building blocks': probability-weighted cash flows, time value of money, and adjustments for risk. In particular, the adjustment for risk was challenged. A Board member noted that if risk can be diversified, it should not affect measurement. Other Board members agreed with that as a general proposition but noted in return that liabilities related to asset retirement and environmental remediation obligations were often not capable of such risk diversification.

A simple example demonstrated that IAS 37 supported at several notions of measurement. Using the example of a deep-sea oil rig to be decommissioned in 20-30 years' time (see IAS 37.App C, Ex 3), these included:

• (a) what it would cost the entity to transfer the obligation to decommission the rig in 20-30 years' time to an unrelated party at the balance sheet date;
• (b) what it would cost the entity if the asset was retired at the balance sheet date (that is, cease production now, before the end of the oil well/rig's useful life, and dismantle the rig);
• (c) the present day price to decommission the rig in 20-30 years' time adjusted for future price changes and discounted back to the present day assuming the entity undertakes the work;
• (d) as for (c) but assuming that the entity will sub-contract the work to another entity (that is, the sub-contractor will expect to earn a margin).

At this point, the debate was closed. The staff was asked to work with the Board advisers on the project and to return with proposals at a subsequent meeting.

General Requirements for Restructuring Costs and Specific Guidance for Contract Termination Costs

The Board discussed several issues that had been included in the 2005 Exposure Draft but that had not yet been redeliberated by the Board.

Whether disclosures similar to those in FAS 146 Accounting for Costs Associated with Exit or Disposal Activities, paragraph 20, should be included in the revised IAS 37

The Board agreed in principle that disclosures similar to those in FAS 146.20 should be included in the revised IAS 37. However, several Board members expressed reservations. One was concerned that such a requirement would lead to unnecessary disclosure that is included 'to be on the safe side' without any real consideration of its information content. Another disagreed with taking this decision before the Board had determined what the measurement attribute in IAS 37 was. They said that the discussion in the previous session seemed to prove that in five years work revising IAS 37, the Board was still uncertain as to what that attribute was.

Constructive obligations

The staff noted that the manner in which constructive obligations were discussed in the Exposure Draft may have contributed to commentators' misunderstanding of the Board's intentions. The Board accepted a staff proposal to amend paragraph 15 of the 2005 ED as follows:

15 In the absence of legal enforceability, particular care is required in determining whether another party can rely on the entity to act or perform in a particular way. an entity has a present obligation that it has little, if any, discretion to avoid settling. In the case of a constructive obligation, this This will be the case only if:

(a) by an established pattern of past practice, published policies or a sufficiently specific current statement, the entity has indicated to the other parties party that it will accept particular responsibilities;

(b) as a result the entity has created a valid expectation in that party the other parties that it can reasonably rely on expect the entity to perform those responsibilities; and

(c) the other party parties will either benefit from the entity's performance or suffer harm from its non-performance.

Board members expressed concern with aspects of drafting, especially paragraph 15(b), which several thought 'too weak'. Those Board members thought that the counterparty should have a legal remedy against the entity: while this was very close to the US notion of promissory estoppel [a contractually enforceable right that protects a party who would suffer harm], without that notion earnings management would be very easy.

Onerous contracts

The Board agreed to clarify guidance paragraph 57 of the Exposure Draft about contracts that become onerous due to factors outside the entity's control along the following lines:

In some cases, contracts become onerous as a result of events outside the entity's control. For example, a contract that requires an entity to make specified payments regardless of whether it takes delivery of contracted products or services may become onerous if the market price of the products or services declines below the contracted price and as a consequence the benefits that the entity can derive from the products or services become less than the unavoidable costs under the contract....

The staff suggested clarifying the Board's intention with respect to contracts that become onerous through the entity's own actions by amending the illustrative examples and clarifying the Basis for Conclusions. While not disagreeing with those proposed changes, Board members expressed the view that the clarification should also be made in the Standard; amending non-authoritative material was not enough.

The Board agreed that amendments to the text in the Exposure Draft were unnecessary with respect to a perceived inconsistency between ED paragraphs 15 and 55 with respect to constructive obligations; nor with respect to guidance in ED paragraph 58 on sublease income.

The Board agreed to amend ED paragraph 55 to state that 'if an entity has a contract that is onerous, it shall recognise as a liability the net present obligation under the contract...' In addition, it agreed to amend ED paragraph 58 as follows: 'If the contract is an operating lease of an asset that the entity no longer uses, the entity determines the net present obligation unavoidable cost by reference to the remaining lease rentals payable, reduced by estimated sublease rentals that could be reasonably obtained for the property, even if the entity does not intend to enter into a sublease.'