IAS37: CURRENT ISSUES IN FINANCIAL REPORTING
IAS37: Current Issues in Financial Reporting
Introduction
Since the publication of IAS 37, it provides explicit directions for companies to recognize provision, contingent liability and contingent assets. IAS 37 undermines the traditional accounting concepts of prudence hence leading to considerable volatility in companies earning reports. The IAS 37 helps in disclosing the transaction incurred in an organization that is associated with liabilities. In the IAS 37 standard, the word “probable” has been adversely used and hence providing options of creative accounting essential for companies to recognize its provision on balance sheet. Before the amendment of current IAS 37, the different countries had a diverse approach in verifying provisions in the financial report and hence leading to inconsistency. The issues of inconsistency in financial reporting due to provisions, contingent liability, and assets made the accounting standards to be formulated. Therefore, the paper focuses on current issues addressed in the IAS 37 on provisions, contingent liability and contingent assets contrary to traditional accounting concepts.
Traditional accounting made the business entities to apply various ways in verifying their provisions that contributed to inconsistency problems. These enterprises confirmed their provisions on whether to undertake obligations or not depending financial performance. Other business entities, using traditional accounting methods were dependent to managers’ willingness on the provisions recording in financial report on the basis of its impact on balance sheet. Earlier, before publication of IAS 37, the financial reports showed inconsistency due to accounting differences. The business enterprises had different classification methods of provisions that jeopardized comparability in their financial statements. Due to inconsistency and lack of formulated accounting standards, the business entity had the opportunity to manipulate their profits (Tsuji & Fujibayashi, 2011, p. 132). Furthermore, some business enterprises tend to include some liabilities of which they never met the required conditions to be in balance sheets. Therefore, the current financial situations of these enterprises were damaged, and they never portrayed the proper financial position of the company. The objective of IAS 37 Accounting standard is ensuring that appropriate mechanisms are developed that meet criteria and measurement bases on the provision, contingent liability as well as the contingent assets.
Ias 37 Requirement in Current Financial Reporting
Business enterprises should recognize provision as liability if it meets the following criteria simultaneously;
If the present obligation exist or it more likely to exist at the end of balance sheet due to obligation event
Liability is more likely than not that is 50% to 95%, it is probable as the outflow of economic benefits in the business entity will exist.
These criteria are essential in the determination of probable aspects through the outflow of economic benefits of a business entity. Contrary to traditional accounting, IAS 37 identifies the contingent liability of an organization as it is supposed to be disclosed unless the economic benefit outflow is remote. Regarding contingent asset, should also be disclosed especially when inflow is virtually certain and should be included and recognized in the balance sheet as an asset (Christodoulou, 2010, p. 5). In provision recognition, the outflow amount of an economic benefit of the business enterprises is required to be estimated as the same as what entity needs to settle its obligations. The measuring of the provision of issues such as uncertainties, risks, discounted provisions and law changes affecting provision among others, it requires taking into account rather than into account gain depending on assets disposal.
The Importance of Ias37 Requirements
The aim of IAS 37 is to ensure recognition of provisions and both liability and assets contingents using measurement methods in financial reporting. Contrary to traditional accounting methods, the IAS 37 approach ensures adequate and appropriate information in the financial statements are correct and essential in investment decision making. The IAS 37 deals with real obligations that are found in the financial statements and future expenditure. The IAS 37 provides firm guidelines that assist in estimating provisions that are associated with its goals (Rees, 2006, p. 32). The basic aim is providing appropriate measurement approach that helps in representing sufficient and appropriate financial information. The set standard requires the business enterprises to take into account estimation process; uncertainties, risks, and various elements to ensure best estimation of provision are achieved. This requirement helps in prevention of unrealistic values to be included in the financial statements. Therefore, the major importance of IAS 37 is reducing by any chance possibility of voluntary reporting or misstatement of business entity in provisions, contingent liabilities, and assets.
Critical Evaluation of IAS 37
Options allowed
Provisions are measured using a different approach that ensures best estimates are realized. Using the different approaches, the companies are entitled to control a number of provisions. The information involved in the provisions that include amount and timing are essential to be realized and disclosed by the business entity. The company is supposed to provide a number of a provision in the balance sheet, especially when making the profit in the specified period. Recording the number of provisions ensures that company does not calculate the smaller number of provisions in their balance sheets as it would make organization financial reports to look good whereas the company is losing money in that period. Changing the number of provisions with the aim of improving the balance sheet to improve the financial performance mislead investors as well as creditors and shareholder in decision making (Holder & Karim, 2012, p. 37). The contingent liabilities are always disclosed in the financial report and specifically in notes whereas the provisions are indicated in the balance sheet as liabilities.
Applicability of IAS37 Internationally
IAS37 has been embraced in more than 100 countries whereas some international countries have established a timeline in harmonizing their accounting systems. Even though the IAS 37 is internationally recognized, it would face difficulties in application. Due to different cultural accounting attitude, the companies would not voluntarily disclose all the information, especially on contingent liabilities and assets. The secretive culture has been identified in different countries such as Switzerland and Japan and would influence the applicability of IAS 37. This would be contrary to the companies found in transparent countries as they will disclose all the details in their financial statements (Rees, 2006, p. 33). On the other hand, some countries tend to possess more requirement in accounting especially in provisions, contingent liabilities and assets more than what IAS37 entails. Depending on the accounting professionalism and standards, these countries have well-developed accounting process that guides them when preparing financial reports.
IAS 37 provides different opportunities to the company in the application of creative accounting. Through provisions, the company reflects its balance sheet whereby the contingent liabilities are only indicated and disclosed in notes. In balancing the sheet, the accountant through IAS 37 is required to be creative to disclose contingent liabilities comparing to provisions. In another instance, many accounting items tend to depend on with estimation and anticipations. The items that are uncertain and arbitrary depend on with the creativeness of accountant. This prevents overrating or underrating as a company through IAS 37 standards are in a position of controlling the accounting process.
Limitations of IAS 37
IAS 37 is faced inconsistency comparing to other standards focusing on recognition of liabilities that requires being probable like the traditional accounting methods. In traditional accounting methods, that is before IAS 37 was established and standardized, it was hard to recognize the liabilities through the outflow of economic benefits or probabilities. It was also not clear in providing liabilities identification and explanation (Rees, 2006, p. 30). Contingent liabilities tend to express that variety of things are groups of which they are not recognized. The introduction of IAS 37 present fundamental features that group liabilities and assets as contingents. The approach used by IAS 37 in providing uniformity and standards of accounting indicates the faces different challenges even though it rectifies the presentation of provisions and contingents liabilities and assets in financial reports.
Conclusion
IAS 37 was formulated with the aim of improving the traditional accounting standards and providing provisions for contingent liabilities and assets. The key principle of ISA 37 is ensuring that provisions are recognized. Provisions are recognized when present obligations are found at the end of financial report and presence of probable outflow that can be reliably estimated. IAS 37 helps in recognizing provisions using proper measurements that ensure valuable information are indicated in the financial statements. Most countries have embraced IAS 37 Accounting standards even though they are facing challenges in expressing plainly the contingents. It is through IAS 37 that an organization gets an option of recognizing either provisions or disclosing contingent liabilities. It also provides a chance of estimation and anticipation through probability as an opportunity of creative accounting. Issues such as inconsistency by IAS 37 tend to counter the standards of accounting in explanation of contingent liabilities and hence the need of positive and constructive suggestions to its improvement. Finally, IAS 37 standards are open for further improvement to enhance accounting standard and uniformity when dealing with provisions and contingents liabilities and assets.
References
Christodoulou, M. (2010). IAS 37 rule on legal costs set to cause confusion. Accountancy Age., pp, 4-5.
Holder, A., & Karim, K. (2012). Loss Contingencies Face Controversy in Convergence. CPA Journal. 82(1), pp. 34-39.
Rees, H. (2006). The IASB's Proposed Amendments to IAS 37. European Accounting Review. 3(15), pp. 27-34.
Tsuji, M., & Fujibayashi, M. (2011). The impact of accounting for asset retirement obligation on smaller and medium-sized entities. Journal of International Business Research. 10, pp. 129-142.
