Liabilities — Amendments to IAS 37

Date recorded:

The Board agreed that they should endeavour to issue revisions to IAS 37, even if some issues remain unresolved. To do so would 'save' the following items, which several Board members saw as significant improvements to IAS 37:

  • removing the probability recognition criterion. At present, IAS 37 requires entities to recognise liabilities only if it is probable that there will be an outflow of economic benefits. This requirement is inconsistent with the recognition requirements for liabilities in other standards-such as IAS 39. In particular, it is inconsistent with the requirements in IFRS 3 Business Combinations, which does not apply the probability recognition criterion for contingent liabilities that an entity acquires in a business combination.
  • removing the term 'contingent liability' and updating guidance on identifying liabilities. The guidance in IAS 37 on identifying liabilities is unclear. IAS 37 uses the term 'contingent liability' to describe various things, some of which are liabilities and some of which are not liabilities. The proposed revisions would remove the label 'contingent liability' and focus solely on whether an item does or does not meet the definition of a liability. They would also include more guidance to help entities to identify liabilities - particularly for situations in which the outcome is dependent on the occurrence or non-occurrence of future events. The concepts and terminology developed in the Exposure Draft are consistent with those now being used in other projects, such as revenue recognition and insurance.
  • improving the general guidance on identifying constructive obligations and hence the specific requirements for restructuring liabilities. The Board proposes to tighten the definition of constructive obligations by specifying that entities must have a present duty or responsibility to another party who will benefit from the entity's performance of its duty or responsibility. This additional guidance should make it easier for entities to distinguish between constructive obligations and economic compulsion, and align IFRSs more closely with US GAAP. In particular, by tightening the definition of a constructive obligation, the Board can change the requirements for recognising liabilities for restructuring costs. The change will improve a weak area of IAS 37 and eliminate the main differences between IAS 37 and US accounting standard FAS 146 Accounting for Costs Associated with Exit or Disposal Activities.
  • clarifying that entities should measure all liabilities on the basis of expected value, not most likely outcome. At present the guidance in IAS 37 is ambiguous. It is widely interpreted as permitting entities to measure single obligations at their most likely outcome.
  • making a range of other minor improvements, for example removing outdated terminology (eg 'provisions'), clarifying that IAS 37 applies to all liabilities that are not within the scope of other standards and adding guidance on identifying and measuring onerous contracts.

Measurement guidance

The staff presented its proposals seeking to address the Board's desire to clarify the measurement objective and explain more fully how entities should apply those requirements. This was presented in the form of Draft Application Guidance. The Board quickly returned to its favourite discussion: what does the measure in IAS 37 represent? The Board discussed this issue at length. A Board member was concerned that the Application Guidance as drafted could be read in several different ways, which was unacceptable. Several Board members offered their views of what cash flows would be considered in determining the measure of the IAS 37 liability.

A possible solution was advanced late in the discussion. There was general consensus that the following proposed application guidance would be appropriate for liabilities such as lawsuits-those not involving the delivery of services:

If the obligation is of a type that is fulfilled by making payments to the counterparty, the relevant cash flows include:

  • a) the amounts that are expected to be paid to the counterparty; and
  • b) associated costs, such as legal fees.

In those situations in which the obligation is fulfilled by undertaking a service, the relevant cash flows include the profit margin that the entity would charge in the market to fulfil the obligations of another market participant. (Company A has a decommissioning obligation; it has the capacity to discharge that obligation itself or to contract with Company Z to do the decommissioning for it. When measuring the IAS 37 obligation, it considers it would consider both what Company Z would charge and what it would charge to do the work (that is, with its own profit margin included in the measure). In a competitive market, these two measures may be similar.

If the entity is not in a position to discharge the obligation itself, then it would have to use the third party amount - that is, the current exit price for that obligation.

A majority of the Board indicated that they would support a measurement principle based on this approach.

Restructuring disclosure

Description of restructuring activity

The Board decided that the information entities should give when describing the restructuring activity should be the same disclosure as FAS 146, that is, a description of the exit or disposal activity, including the facts and circumstances leading to the expected activity and the expected completion date.

Other disclosure

There was less agreement about what other disclosure should be required and the extent to which IAS 37 should be conformed to the disclosure requirements in FAS 146. There seemed to be a desire for a greater degree of conformity with FAS 146 than the staff had proposed, but in any event, the disclosure package will have to come back to the Board.

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