Yakub02
Banned
Companies made provisions based simply on ‘management intent’ and used the argument of prudence to support their accounting treatment of provisions.
Creating a provision would reduce profit in the current year. However, by creating a provision for expenses that would otherwise be charged in future years, a company was able to improve reported profits in future years.
Quite often management would ‘change their mind’ about the intention that had led to the creation of the provision, and the provision would be ‘released back’ to increase profit in a subsequent year.
Provisions might contain a mixture of items such as provisions for future reorganisation costs, redundancy costs, closure costs, warranty claims and staff re-training costs. It was apparent that companies were exploiting the absence of rules and using provisions to move profit from one year to the next.
Alternatively, provisions might be created in a year of poor performance so as to report the ‘bad news’ in the current year so that future profits could be made to seem much better
IAS 37 includes rules which try to prevent situations like this from happening.
For example it prohibits the recognition of a restructuring provision until that point in time where the company has no realistic alternative but to proceed with the restructuring. However, IAS 37 is a standard that requires use of estimates and remeasurement of the provisions at each reporting date.
There is still potential to use provisions to transfer profit form one period to the next.
Creating a provision would reduce profit in the current year. However, by creating a provision for expenses that would otherwise be charged in future years, a company was able to improve reported profits in future years.
Quite often management would ‘change their mind’ about the intention that had led to the creation of the provision, and the provision would be ‘released back’ to increase profit in a subsequent year.
Provisions might contain a mixture of items such as provisions for future reorganisation costs, redundancy costs, closure costs, warranty claims and staff re-training costs. It was apparent that companies were exploiting the absence of rules and using provisions to move profit from one year to the next.
Alternatively, provisions might be created in a year of poor performance so as to report the ‘bad news’ in the current year so that future profits could be made to seem much better
IAS 37 includes rules which try to prevent situations like this from happening.
For example it prohibits the recognition of a restructuring provision until that point in time where the company has no realistic alternative but to proceed with the restructuring. However, IAS 37 is a standard that requires use of estimates and remeasurement of the provisions at each reporting date.
There is still potential to use provisions to transfer profit form one period to the next.
