[{"Name":"Introduction to Provisions","TopicPlaylistFirstVideoID":0,"Duration":null,"Videos":[{"Watched":false,"Name":"Basic Concepts","Duration":"17m 34s","ChapterTopicVideoID":28791,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":"https://www.proprep.uk/Images/Videos_Thumbnails/28791.jpeg","UploadDate":"2022-04-27T07:49:30.8470000","DurationForVideoObject":"PT17M34S","Description":null,"MetaTitle":"Basic Concepts: Video + Workbook | Proprep","MetaDescription":"Provisions - Introduction to Provisions. Watch the video made by an expert in the field. Download the workbook and maximize your learning.","Canonical":"https://www.proprep.uk/general-modules/all/introduction-to-financial-accounting-and-reporting/provisions/introduction-to-provisions/vid30298","VideoComments":[],"Subtitles":[{"Start":"00:00.110 ","End":"00:03.510","Text":"Good day and welcome to the series of"},{"Start":"00:03.510 ","End":"00:09.339","Text":"video presentations on provisions brought to you by Proprep."},{"Start":"00:09.770 ","End":"00:14.340","Text":"You\u0027ve probably all heard of the Bosch Group,"},{"Start":"00:14.340 ","End":"00:17.175","Text":"Bosch seller range of consumer goods,"},{"Start":"00:17.175 ","End":"00:19.725","Text":"such as dishwashers, washing machines,"},{"Start":"00:19.725 ","End":"00:22.330","Text":"ovens, fridges, and so on."},{"Start":"00:22.430 ","End":"00:28.050","Text":"Now, the Bosch Group as selling this consumer good,"},{"Start":"00:28.050 ","End":"00:35.040","Text":"provides customers typically with a warranty to replace or fix any faulty appliances."},{"Start":"00:35.040 ","End":"00:40.760","Text":"Now, there\u0027s an accounting question that arises with respect to warranty."},{"Start":"00:40.760 ","End":"00:44.945","Text":"The question is, should Bosch recognize"},{"Start":"00:44.945 ","End":"00:47.540","Text":"an expense along with"},{"Start":"00:47.540 ","End":"00:52.475","Text":"the corresponding liability at the time when the appliances are sold,"},{"Start":"00:52.475 ","End":"00:57.530","Text":"or should Bosch recognize a warranty expense in"},{"Start":"00:57.530 ","End":"01:04.804","Text":"its income statement only when the ultimate repair cost is actually incurred."},{"Start":"01:04.804 ","End":"01:12.560","Text":"The objectives of this session is to discuss the differences between liabilities,"},{"Start":"01:12.560 ","End":"01:17.980","Text":"provisions, and contingent liabilities."},{"Start":"01:17.980 ","End":"01:20.745","Text":"As a starting point,"},{"Start":"01:20.745 ","End":"01:25.655","Text":"note that a provision is in fact a type of liability."},{"Start":"01:25.655 ","End":"01:28.400","Text":"Provision is a liability,"},{"Start":"01:28.400 ","End":"01:35.030","Text":"whereas a contingent liability is not recognized as a liability."},{"Start":"01:35.030 ","End":"01:40.144","Text":"The wording is a bit unfortunate that industry emphasize"},{"Start":"01:40.144 ","End":"01:47.468","Text":"a provision as a liability and will be recognized as such as liability,"},{"Start":"01:47.468 ","End":"01:49.760","Text":"but the contingent liability,"},{"Start":"01:49.760 ","End":"01:51.335","Text":"which we will learn about,"},{"Start":"01:51.335 ","End":"01:54.245","Text":"although it has the name liability attached to it,"},{"Start":"01:54.245 ","End":"01:58.894","Text":"is in fact not recognized as a liability."},{"Start":"01:58.894 ","End":"02:05.065","Text":"We will also go on to review some examples of provisions."},{"Start":"02:05.065 ","End":"02:07.515","Text":"In this video presentation,"},{"Start":"02:07.515 ","End":"02:10.125","Text":"we will outline the basic concepts,"},{"Start":"02:10.125 ","End":"02:13.910","Text":"and in the subsequent video presentations,"},{"Start":"02:13.910 ","End":"02:17.855","Text":"we will look at provisions compared to other liabilities."},{"Start":"02:17.855 ","End":"02:22.055","Text":"We\u0027ll look at the provision for warranty expenses,"},{"Start":"02:22.055 ","End":"02:25.055","Text":"the provision for litigation costs,"},{"Start":"02:25.055 ","End":"02:30.395","Text":"and finally, provisions for environmental and cleanup costs."},{"Start":"02:30.395 ","End":"02:35.225","Text":"We will start off by reviewing the definition of liability."},{"Start":"02:35.225 ","End":"02:38.840","Text":"Remember, in terms of the conceptual framework,"},{"Start":"02:38.840 ","End":"02:47.940","Text":"a liability is a present obligation of the entity to transfer an economic resource,"},{"Start":"02:47.940 ","End":"02:52.205","Text":"and this all arises from a past event."},{"Start":"02:52.205 ","End":"02:56.490","Text":"This has been covered in detail in previous videos."},{"Start":"02:56.630 ","End":"03:01.750","Text":"Accounting standards also distinguish"},{"Start":"03:01.750 ","End":"03:07.175","Text":"between a current liability and a non-current liability."},{"Start":"03:07.175 ","End":"03:09.530","Text":"In order to understand this,"},{"Start":"03:09.530 ","End":"03:16.093","Text":"we need to look at what is known as the entities operating cycle."},{"Start":"03:16.093 ","End":"03:20.030","Text":"An entity will buy inventory."},{"Start":"03:20.030 ","End":"03:24.080","Text":"That inventory is purchased from suppliers who we"},{"Start":"03:24.080 ","End":"03:28.450","Text":"know are referred to as accounts payable or creditors."},{"Start":"03:28.450 ","End":"03:32.585","Text":"The inventory is bought from the supplier."},{"Start":"03:32.585 ","End":"03:37.430","Text":"That inventory is sold to"},{"Start":"03:37.430 ","End":"03:42.695","Text":"customers who we know are referred to as the accounts receivable."},{"Start":"03:42.695 ","End":"03:46.730","Text":"Those customers, then will pay cash to the entity."},{"Start":"03:46.730 ","End":"03:50.479","Text":"The entity receives cash from the customers,"},{"Start":"03:50.479 ","End":"03:52.160","Text":"the accounts receivable,"},{"Start":"03:52.160 ","End":"03:57.835","Text":"and it uses that cash to pay the suppliers the accounts payable."},{"Start":"03:57.835 ","End":"04:06.755","Text":"The operating cycle of the entity can be viewed in this diagram that I\u0027ve just drawn."},{"Start":"04:06.755 ","End":"04:09.400","Text":"What is a current liability then?"},{"Start":"04:09.400 ","End":"04:15.365","Text":"It is one that is expected to be settled within the normal operating cycle."},{"Start":"04:15.365 ","End":"04:17.840","Text":"However long that cycle happens to be,"},{"Start":"04:17.840 ","End":"04:19.685","Text":"the cycle, as I said,"},{"Start":"04:19.685 ","End":"04:26.540","Text":"being the time it takes from the purchase of inventory to selling the goods to customers,"},{"Start":"04:26.540 ","End":"04:31.820","Text":"to also receiving the cash from the customers and paying the suppliers."},{"Start":"04:31.820 ","End":"04:35.345","Text":"Accountability is also one that has held for the purpose"},{"Start":"04:35.345 ","End":"04:39.290","Text":"of being traded for example, a short position."},{"Start":"04:39.290 ","End":"04:42.980","Text":"Also, a current liability is 1 which is"},{"Start":"04:42.980 ","End":"04:46.400","Text":"due to be settled within 12 months after the balance sheet date."},{"Start":"04:46.400 ","End":"04:53.255","Text":"For example, if the balance sheet date is 31 December of let\u0027s say,"},{"Start":"04:53.255 ","End":"04:57.650","Text":"of Year 1, then any liability due to be settled up"},{"Start":"04:57.650 ","End":"05:03.570","Text":"until 31 December of Year 2 is regarded as a current liability."},{"Start":"05:03.920 ","End":"05:07.190","Text":"The last part of the definition of"},{"Start":"05:07.190 ","End":"05:12.290","Text":"a current liability is 1 where the entity does not expect or does not"},{"Start":"05:12.290 ","End":"05:15.440","Text":"have an unconditional right to defer"},{"Start":"05:15.440 ","End":"05:20.790","Text":"settlement for at least 12 months after the balance sheet date."},{"Start":"05:21.310 ","End":"05:27.500","Text":"This last situation relates to loans when entity may in"},{"Start":"05:27.500 ","End":"05:33.140","Text":"fact have a right to defer settlement of a repayment of a loan."},{"Start":"05:33.140 ","End":"05:36.680","Text":"For example, loan could be due to be repaid within,"},{"Start":"05:36.680 ","End":"05:39.365","Text":"say, 6 months of the balance sheet date,"},{"Start":"05:39.365 ","End":"05:43.010","Text":"but the entity has a right to defer the payment,"},{"Start":"05:43.010 ","End":"05:45.410","Text":"for example for further 18 months,"},{"Start":"05:45.410 ","End":"05:50.540","Text":"thereby pushing it beyond the 12 month period and making it non-current."},{"Start":"05:50.540 ","End":"05:54.920","Text":"What this is saying is in quite a specific scenario if entity"},{"Start":"05:54.920 ","End":"05:59.315","Text":"does not have that right to defer the payment of a loan,"},{"Start":"05:59.315 ","End":"06:02.165","Text":"then that remains a current liability."},{"Start":"06:02.165 ","End":"06:06.740","Text":"Accounting Standards do not define non-current liabilities other than"},{"Start":"06:06.740 ","End":"06:12.025","Text":"saying a non-current liability is all liabilities that are not current."},{"Start":"06:12.025 ","End":"06:14.750","Text":"These are typically longer-term loans,"},{"Start":"06:14.750 ","End":"06:19.475","Text":"the lease liability or liability portion of a lease,"},{"Start":"06:19.475 ","End":"06:22.550","Text":"and bonds as examples."},{"Start":"06:22.550 ","End":"06:26.345","Text":"Moving on then to talk about a provision,"},{"Start":"06:26.345 ","End":"06:33.050","Text":"specifically, accounting standards define a provision as a liability."},{"Start":"06:33.050 ","End":"06:36.980","Text":"As I\u0027ve said before, provisions are liabilities."},{"Start":"06:36.980 ","End":"06:41.240","Text":"Importantly provisions are liabilities where"},{"Start":"06:41.240 ","End":"06:48.120","Text":"the timing or amount of the liability,"},{"Start":"06:48.120 ","End":"06:53.133","Text":"1 or both of these is in fact uncertain."},{"Start":"06:53.133 ","End":"06:56.080","Text":"That\u0027s quite an important concept to"},{"Start":"06:56.080 ","End":"07:01.810","Text":"appreciate because we need to distinguish the provision from other types of,"},{"Start":"07:01.810 ","End":"07:04.464","Text":"for example, short-term or long-term,"},{"Start":"07:04.464 ","End":"07:07.055","Text":"current or non-current liabilities."},{"Start":"07:07.055 ","End":"07:10.720","Text":"So an accrual for wages,"},{"Start":"07:10.720 ","End":"07:14.065","Text":"wages unpaid, or an accrual for rent,"},{"Start":"07:14.065 ","End":"07:17.545","Text":"rent unpaid is liability,"},{"Start":"07:17.545 ","End":"07:24.970","Text":"but it is not a provision because the timing and amount of the liability related to,"},{"Start":"07:24.970 ","End":"07:30.705","Text":"for example, accrued wages or accrued rent is not uncertain."},{"Start":"07:30.705 ","End":"07:35.450","Text":"That\u0027s a very important distinction between a accrual"},{"Start":"07:35.450 ","End":"07:40.659","Text":"as liability and a provision as liability."},{"Start":"07:40.659 ","End":"07:43.925","Text":"Accounting standards, then say that we shall recognize"},{"Start":"07:43.925 ","End":"07:47.855","Text":"a provision where the entity has a present obligation."},{"Start":"07:47.855 ","End":"07:50.465","Text":"That comes from the inability definition."},{"Start":"07:50.465 ","End":"07:53.945","Text":"That present obligation can be"},{"Start":"07:53.945 ","End":"08:01.754","Text":"a legal present obligation or a constructive present obligation."},{"Start":"08:01.754 ","End":"08:05.500","Text":"Now it\u0027s worthwhile here talking about what do we mean"},{"Start":"08:05.500 ","End":"08:10.120","Text":"by a legal or constructive present obligation."},{"Start":"08:10.120 ","End":"08:16.600","Text":"A legal present obligation comes about from the operation of law."},{"Start":"08:16.600 ","End":"08:20.950","Text":"For example, an entity may sell goods to a customer,"},{"Start":"08:20.950 ","End":"08:26.260","Text":"and it has a legal obligation to provide a warranty as an example,"},{"Start":"08:26.260 ","End":"08:29.845","Text":"or an entity might be involved in a court case,"},{"Start":"08:29.845 ","End":"08:35.800","Text":"and is found guilty and has a legal obligation to pay damages."},{"Start":"08:35.800 ","End":"08:41.485","Text":"The damages may be uncertain in the timing of the payment or the amount."},{"Start":"08:41.485 ","End":"08:43.720","Text":"Hence, it will become a provision,"},{"Start":"08:43.720 ","End":"08:46.795","Text":"but that is an example of a legal obligation."},{"Start":"08:46.795 ","End":"08:49.585","Text":"What then is a constructive obligation?"},{"Start":"08:49.585 ","End":"08:53.500","Text":"A constructive obligation is 1 which comes about"},{"Start":"08:53.500 ","End":"08:58.480","Text":"whereby the entity through its practices or actions,"},{"Start":"08:58.480 ","End":"09:06.785","Text":"demonstrates to relevant parties that in fact accepts an obligation."},{"Start":"09:06.785 ","End":"09:11.310","Text":"An example of constructive obligation could be,"},{"Start":"09:11.310 ","End":"09:16.260","Text":"say a company in an oil industry may,"},{"Start":"09:16.260 ","End":"09:19.845","Text":"for example contaminate the environment,"},{"Start":"09:19.845 ","End":"09:26.049","Text":"and the company has no legal obligation to clean up the environment."},{"Start":"09:26.049 ","End":"09:31.255","Text":"But it may be has published policies which indicates the company"},{"Start":"09:31.255 ","End":"09:37.585","Text":"always cleans up after drilling for oil as an example,"},{"Start":"09:37.585 ","End":"09:40.930","Text":"there\u0027s an example of a constructive obligation."},{"Start":"09:40.930 ","End":"09:44.620","Text":"It always comes about as a result of a past event."},{"Start":"09:44.620 ","End":"09:47.500","Text":"Remember liabilities have to have happened in the past."},{"Start":"09:47.500 ","End":"09:50.755","Text":"Now, point a here on this slide,"},{"Start":"09:50.755 ","End":"09:56.320","Text":"looks effectively at the definition component of the provision."},{"Start":"09:56.320 ","End":"10:03.595","Text":"Points b and c look at the recognition components of a provision."},{"Start":"10:03.595 ","End":"10:06.310","Text":"I\u0027ll say it again in case it didn\u0027t come out clearly."},{"Start":"10:06.310 ","End":"10:13.045","Text":"Point a here refers to the definition component of a provision,"},{"Start":"10:13.045 ","End":"10:19.400","Text":"and point b and c refer to the recognition components of the provision."},{"Start":"10:19.410 ","End":"10:22.045","Text":"What is b say,"},{"Start":"10:22.045 ","End":"10:29.035","Text":"it must be probable that an outflow of resources be required to settle the obligation."},{"Start":"10:29.035 ","End":"10:32.260","Text":"You need to have a probable outflow of resources,"},{"Start":"10:32.260 ","End":"10:34.840","Text":"and we need to import part c,"},{"Start":"10:34.840 ","End":"10:41.200","Text":"make a reliable estimate of the amount of this obligation."},{"Start":"10:41.200 ","End":"10:45.460","Text":"Now, it\u0027s important to appreciate that a"},{"Start":"10:45.460 ","End":"10:48.805","Text":"is a definition part and b and c are the recognition part,"},{"Start":"10:48.805 ","End":"10:51.730","Text":"because when we start looking at the difference between,"},{"Start":"10:51.730 ","End":"10:53.500","Text":"as I mentioned before,"},{"Start":"10:53.500 ","End":"10:57.040","Text":"the difference between a provision on"},{"Start":"10:57.040 ","End":"11:02.785","Text":"the one hand and a contingent liability on the other hand."},{"Start":"11:02.785 ","End":"11:07.090","Text":"An important way of distinguishing a provision"},{"Start":"11:07.090 ","End":"11:11.755","Text":"from contingent liability is to look at those recognition criteria,"},{"Start":"11:11.755 ","End":"11:16.825","Text":"which in fact, you will see will not be met for a contingent liability."},{"Start":"11:16.825 ","End":"11:19.000","Text":"If these conditions are not met,"},{"Start":"11:19.000 ","End":"11:23.320","Text":"both the definition and recognition criteria,"},{"Start":"11:23.320 ","End":"11:27.550","Text":"then no provision is recognized."},{"Start":"11:27.550 ","End":"11:30.970","Text":"Going back to the present obligation part of"},{"Start":"11:30.970 ","End":"11:34.900","Text":"the definition of a provision, this present obligation,"},{"Start":"11:34.900 ","End":"11:38.539","Text":"as a result of a past event will only exist if"},{"Start":"11:38.539 ","End":"11:43.179","Text":"the entity has already obtained some economic benefits."},{"Start":"11:43.179 ","End":"11:47.185","Text":"For example, it has acquired goods from a supplier,"},{"Start":"11:47.185 ","End":"11:48.519","Text":"which needs to repay."},{"Start":"11:48.519 ","End":"11:52.690","Text":"It has borrowed cash from a lender which needs to repay,"},{"Start":"11:52.690 ","End":"11:59.230","Text":"and as a result, will or may have to transfer an economic resource."},{"Start":"11:59.230 ","End":"12:03.550","Text":"The transfer of the economic resource will in fact be typically the payment"},{"Start":"12:03.550 ","End":"12:08.530","Text":"of cash in settlement of the obligation."},{"Start":"12:08.530 ","End":"12:16.645","Text":"Now, the word present in the present obligation in relation to the provision,"},{"Start":"12:16.645 ","End":"12:21.445","Text":"because the provision is a liability of as we said."},{"Start":"12:21.445 ","End":"12:31.030","Text":"Just recap here, the provision is a liability of uncertain timing or amount."},{"Start":"12:31.030 ","End":"12:34.435","Text":"We need to then have some way of determining"},{"Start":"12:34.435 ","End":"12:39.460","Text":"or putting some assessment on this uncertainty."},{"Start":"12:39.460 ","End":"12:46.375","Text":"Accounting standards refer to the concept of more likely than not."},{"Start":"12:46.375 ","End":"12:51.760","Text":"Is it more likely than not that a present obligation exists?"},{"Start":"12:51.760 ","End":"12:54.535","Text":"To determine if it\u0027s more likely or not,"},{"Start":"12:54.535 ","End":"12:59.380","Text":"we say is the in fact more than 50 percent chance"},{"Start":"12:59.380 ","End":"13:03.290","Text":"of this obligation actually materializing."},{"Start":"13:03.290 ","End":"13:07.875","Text":"Now remember, we\u0027re looking at a provision as a type of liability."},{"Start":"13:07.875 ","End":"13:11.620","Text":"We\u0027re not looking at a liability which is a loan from"},{"Start":"13:11.620 ","End":"13:16.405","Text":"a bank where the concept of certainty or uncertainty doesn\u0027t come into play."},{"Start":"13:16.405 ","End":"13:19.450","Text":"We\u0027re looking at a liability which could come about,"},{"Start":"13:19.450 ","End":"13:21.790","Text":"as I mentioned a few examples previously,"},{"Start":"13:21.790 ","End":"13:25.030","Text":"a court case where we may or may not be found guilty."},{"Start":"13:25.030 ","End":"13:26.800","Text":"There\u0027s the uncertainty."},{"Start":"13:26.800 ","End":"13:28.660","Text":"Now in order to establish if there\u0027s"},{"Start":"13:28.660 ","End":"13:32.305","Text":"a present obligation and the accounting standard guide us to say,"},{"Start":"13:32.305 ","End":"13:37.390","Text":"is it more likely than not that we do have a present obligation, we say,"},{"Start":"13:37.390 ","End":"13:43.660","Text":"is there in fact more than 50 percent chance of that obligation materializing."},{"Start":"13:43.660 ","End":"13:51.100","Text":"If yes, then we\u0027ll recognize that provision as long as we meet the recognition criteria."},{"Start":"13:51.100 ","End":"13:52.945","Text":"Remember from the previous slides,"},{"Start":"13:52.945 ","End":"13:58.105","Text":"recognition criteria probably outflow and we can measure it reliably."},{"Start":"13:58.105 ","End":"14:00.550","Text":"As you\u0027ll see on the next slide,"},{"Start":"14:00.550 ","End":"14:04.720","Text":"if we don\u0027t have a present obligation, in other words,"},{"Start":"14:04.720 ","End":"14:12.505","Text":"there\u0027s a less than 50 percent chance of the obligation materializing,"},{"Start":"14:12.505 ","End":"14:17.005","Text":"then we start drifting towards the contingent liability,"},{"Start":"14:17.005 ","End":"14:20.920","Text":"which we\u0027ll see on the next slide."},{"Start":"14:20.920 ","End":"14:24.519","Text":"Now focusing on the contingent liability,"},{"Start":"14:24.519 ","End":"14:26.245","Text":"which as I said before,"},{"Start":"14:26.245 ","End":"14:30.340","Text":"the word liability is a bit of an unfortunate addition"},{"Start":"14:30.340 ","End":"14:35.125","Text":"to the term because when we do have a contingent liability,"},{"Start":"14:35.125 ","End":"14:39.925","Text":"there is in fact no liability recognized on the balance sheet."},{"Start":"14:39.925 ","End":"14:42.400","Text":"But nevertheless, it\u0027s called a contingent liability."},{"Start":"14:42.400 ","End":"14:44.275","Text":"We say at the bottom,"},{"Start":"14:44.275 ","End":"14:51.175","Text":"a contingent liability is not recognized as a liability on the balance sheet."},{"Start":"14:51.175 ","End":"14:55.045","Text":"What then is a contingent liability if not recognized as such?"},{"Start":"14:55.045 ","End":"15:00.055","Text":"Well it\u0027s one where there is a possible obligation."},{"Start":"15:00.055 ","End":"15:04.555","Text":"Now, again, a possible obligation comes back to the concept of,"},{"Start":"15:04.555 ","End":"15:06.805","Text":"do we have a present obligation?"},{"Start":"15:06.805 ","End":"15:11.290","Text":"Or in fact, do we have a possible obligation?"},{"Start":"15:11.290 ","End":"15:14.665","Text":"In deciding whether we have a present or possible obligation,"},{"Start":"15:14.665 ","End":"15:16.795","Text":"we go back to the concept of,"},{"Start":"15:16.795 ","End":"15:21.370","Text":"is it more likely or not that we do have an obligation."},{"Start":"15:21.370 ","End":"15:23.980","Text":"If it is more likely than not, i.e.,"},{"Start":"15:23.980 ","End":"15:26.499","Text":"more than 50 percent chance,"},{"Start":"15:26.499 ","End":"15:31.600","Text":"we then describe the concept as a present obligation."},{"Start":"15:31.600 ","End":"15:36.865","Text":"Whereas in fact, if it is less likely than not, only possible,"},{"Start":"15:36.865 ","End":"15:38.800","Text":"and we say therefore there\u0027s probably"},{"Start":"15:38.800 ","End":"15:43.420","Text":"less than 50 percent chance of obligation materializing,"},{"Start":"15:43.420 ","End":"15:47.185","Text":"that will be referred to as possible obligation."},{"Start":"15:47.185 ","End":"15:52.555","Text":"A contingent liability is a possible obligation."},{"Start":"15:52.555 ","End":"15:58.195","Text":"Or note importantly, or it could be a present obligation."},{"Start":"15:58.195 ","End":"16:01.015","Text":"In other words, one where we do have"},{"Start":"16:01.015 ","End":"16:05.945","Text":"more than 50 percent chance of the obligation coming about."},{"Start":"16:05.945 ","End":"16:12.425","Text":"But importantly, the recognition criteria are not met."},{"Start":"16:12.425 ","End":"16:15.080","Text":"In other words, although there is"},{"Start":"16:15.080 ","End":"16:21.890","Text":"a more than 50 percent chance of the obligation materializing,"},{"Start":"16:21.890 ","End":"16:29.360","Text":"the outflow of resources are not probable or we possibly cannot measure it reliably,"},{"Start":"16:29.360 ","End":"16:33.630","Text":"and therefore cannot recognize a provision as liability,"},{"Start":"16:33.630 ","End":"16:36.770","Text":"and we go back to having a contingent liability which,"},{"Start":"16:36.770 ","End":"16:38.255","Text":"is not recognized,"},{"Start":"16:38.255 ","End":"16:44.129","Text":"but importantly, it is disclosed in the notes, the financial statements."},{"Start":"16:45.340 ","End":"16:48.815","Text":"One more rider, it\u0027s disclosed"},{"Start":"16:48.815 ","End":"16:56.465","Text":"unless the outflow of resources is in fact considered to be remote."},{"Start":"16:56.465 ","End":"17:05.060","Text":"Now, there could be scenarios whereby the particular type of a situation we\u0027re looking"},{"Start":"17:05.060 ","End":"17:13.550","Text":"at is one where we have a possible obligation or a present obligation,"},{"Start":"17:13.550 ","End":"17:15.560","Text":"but don\u0027t meet the recognition criteria,"},{"Start":"17:15.560 ","End":"17:18.290","Text":"so we heading out towards a contingent liability,"},{"Start":"17:18.290 ","End":"17:25.950","Text":"but in reality, what is the chance of us ever having to settle anything?"},{"Start":"17:25.950 ","End":"17:29.990","Text":"If the conclusion is it\u0027s very totally remote, then in fact,"},{"Start":"17:29.990 ","End":"17:35.130","Text":"it\u0027s not even a requirement to have notes disclosure either."}],"ID":30298},{"Watched":false,"Name":"Provisions v Other Liabilities","Duration":"2m 37s","ChapterTopicVideoID":28792,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.200 ","End":"00:04.320","Text":"Hello and welcome to another presentation in"},{"Start":"00:04.320 ","End":"00:08.535","Text":"this series on Provisions brought to you by Proprep."},{"Start":"00:08.535 ","End":"00:16.665","Text":"This video looks at the provisions and compares provisions to other liabilities."},{"Start":"00:16.665 ","End":"00:22.530","Text":"We have mentioned previously that a provision is importantly a liability,"},{"Start":"00:22.530 ","End":"00:28.350","Text":"and also liability of uncertain or the uncertain timing,"},{"Start":"00:28.350 ","End":"00:32.025","Text":"or in fact uncertain amount."},{"Start":"00:32.025 ","End":"00:34.460","Text":"As I\u0027ve said before,"},{"Start":"00:34.460 ","End":"00:41.150","Text":"what distinguishes a provision as liability from other types of liabilities,"},{"Start":"00:41.150 ","End":"00:44.660","Text":"specifically accruals, where some confusion may come"},{"Start":"00:44.660 ","End":"00:51.065","Text":"about is the uncertainty in the timing or amount of the provision."},{"Start":"00:51.065 ","End":"00:58.070","Text":"There are many different examples which we will look at in further videos of provisions."},{"Start":"00:58.070 ","End":"01:03.740","Text":"For example, a provision for a legal dispute where the uncertainty"},{"Start":"01:03.740 ","End":"01:09.680","Text":"comes about in terms of when in fact a payment may have to be made,"},{"Start":"01:09.680 ","End":"01:14.725","Text":"and also uncertainty in terms of the amount of the payment."},{"Start":"01:14.725 ","End":"01:18.950","Text":"We could have a scenario at a balance sheet or reporting"},{"Start":"01:18.950 ","End":"01:23.255","Text":"date where there is a court case against the entity."},{"Start":"01:23.255 ","End":"01:26.300","Text":"The case may be quite advanced,"},{"Start":"01:26.300 ","End":"01:28.685","Text":"but a judgment hasn\u0027t been passed,"},{"Start":"01:28.685 ","End":"01:32.105","Text":"but it\u0027s probable, as we discussed before,"},{"Start":"01:32.105 ","End":"01:34.430","Text":"the entity will be found likely, in other words,"},{"Start":"01:34.430 ","End":"01:36.815","Text":"a more than 50 percent chance."},{"Start":"01:36.815 ","End":"01:40.485","Text":"But this is very different, for example,"},{"Start":"01:40.485 ","End":"01:48.880","Text":"an invoice which has been received to pay a certain amount at a certain date."},{"Start":"01:48.880 ","End":"01:50.945","Text":"A warranty as well."},{"Start":"01:50.945 ","End":"01:57.155","Text":"We know a lot of entities sell goods whereby the warranty of guarantee is offered."},{"Start":"01:57.155 ","End":"02:01.160","Text":"Now again, here it is probably more than 50 percent chance that"},{"Start":"02:01.160 ","End":"02:04.980","Text":"some goods will be brought back for repair under warranty,"},{"Start":"02:04.980 ","End":"02:08.405","Text":"but uncertainty comes in as to the timing."},{"Start":"02:08.405 ","End":"02:11.810","Text":"Will the goods be returned within 3 months or 6 months,"},{"Start":"02:11.810 ","End":"02:12.973","Text":"or maybe after a year?"},{"Start":"02:12.973 ","End":"02:18.485","Text":"The amount, what will be needed to be spent,"},{"Start":"02:18.485 ","End":"02:22.355","Text":"what amounts will need to be incurred to repair those goods."},{"Start":"02:22.355 ","End":"02:24.320","Text":"Also, last example,"},{"Start":"02:24.320 ","End":"02:26.195","Text":"a provision for environmental costs,"},{"Start":"02:26.195 ","End":"02:30.425","Text":"specifically cleaning up of environmental damage."},{"Start":"02:30.425 ","End":"02:33.814","Text":"Again, there might be very difficult amount to estimate"},{"Start":"02:33.814 ","End":"02:37.980","Text":"and therefore is uncertainty involved there as well."}],"ID":30299},{"Watched":false,"Name":"Provision for Warranty Expense","Duration":"14m 28s","ChapterTopicVideoID":28793,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.440 ","End":"00:04.620","Text":"Hello and welcome to another video presentation in"},{"Start":"00:04.620 ","End":"00:08.925","Text":"the series on provisions brought to you by Proprep."},{"Start":"00:08.925 ","End":"00:15.610","Text":"In this presentation, we will look at the provision for warranty expenses."},{"Start":"00:16.400 ","End":"00:18.735","Text":"Now, as you are aware,"},{"Start":"00:18.735 ","End":"00:21.720","Text":"many items such as motor vehicles and"},{"Start":"00:21.720 ","End":"00:27.120","Text":"household appliances are sold with some form of manufacturer warranty."},{"Start":"00:27.120 ","End":"00:30.720","Text":"Now, this warranty allows the customer to obtain,"},{"Start":"00:30.720 ","End":"00:33.810","Text":"typically at no cost to free of charge,"},{"Start":"00:33.810 ","End":"00:41.042","Text":"a repair of that particular defect or failure of the item purchased,"},{"Start":"00:41.042 ","End":"00:45.320","Text":"or in fact, sometimes replacement of the item cannot be repaired."},{"Start":"00:45.320 ","End":"00:48.905","Text":"Now these defects typically happen after"},{"Start":"00:48.905 ","End":"00:52.160","Text":"the sales transaction and importantly"},{"Start":"00:52.160 ","End":"00:56.330","Text":"typically after the balance sheet date or it could be after the balance sheet date,"},{"Start":"00:56.330 ","End":"01:04.820","Text":"depending for how long of what period of time the warranty is granted by the seller,"},{"Start":"01:04.820 ","End":"01:08.510","Text":"and therefore the sellers to create a provision."},{"Start":"01:08.510 ","End":"01:11.299","Text":"Remember the provision is a liability,"},{"Start":"01:11.299 ","End":"01:14.525","Text":"and if we\u0027re go to credit a provision,"},{"Start":"01:14.525 ","End":"01:19.520","Text":"there needs to be a corresponding expense which will be debited to"},{"Start":"01:19.520 ","End":"01:24.890","Text":"record that expense in the income statement of that particular year."},{"Start":"01:24.890 ","End":"01:31.685","Text":"As I said, creating a corresponding liability representing obligation to in this case,"},{"Start":"01:31.685 ","End":"01:34.850","Text":"meet the warranty obligation."},{"Start":"01:34.850 ","End":"01:38.375","Text":"This provision represents an estimate for future."},{"Start":"01:38.375 ","End":"01:46.960","Text":"But again, because it\u0027s a provision uncertain either repair or replacement costs."},{"Start":"01:46.960 ","End":"01:53.150","Text":"Let us now take a look at an example of a provision for warranty claims."},{"Start":"01:53.150 ","End":"01:57.470","Text":"In this example, in the month of January 20X1,"},{"Start":"01:57.470 ","End":"02:04.890","Text":"a company called Halfords sells 10,000 high-performance bicycles."},{"Start":"02:04.890 ","End":"02:10.624","Text":"These bicycles have a 1 year warranty covering manufacturing defects."},{"Start":"02:10.624 ","End":"02:13.670","Text":"Now, in order to create a provision,"},{"Start":"02:13.670 ","End":"02:18.890","Text":"the company has to estimate clearly the cost of these repairs."},{"Start":"02:18.890 ","End":"02:21.575","Text":"It is an estimate because provisions are,"},{"Start":"02:21.575 ","End":"02:26.240","Text":"as we know, liabilities of uncertain timing or amount."},{"Start":"02:26.240 ","End":"02:31.100","Text":"You\u0027ll see the company estimates that minor defects will cost"},{"Start":"02:31.100 ","End":"02:35.568","Text":"200 currency units per item to repair,"},{"Start":"02:35.568 ","End":"02:39.080","Text":"whereas major defects,"},{"Start":"02:39.080 ","End":"02:46.335","Text":"will have an estimated cost of 1,000 currency units to repair."},{"Start":"02:46.335 ","End":"02:50.135","Text":"Now again, the entity has to estimate"},{"Start":"02:50.135 ","End":"02:56.015","Text":"what percentage of bicycles sold will come in for repairs."},{"Start":"02:56.015 ","End":"03:02.390","Text":"The estimate here is that 85 percent will have no defect at all."},{"Start":"03:02.390 ","End":"03:08.705","Text":"Therefore, there\u0027s no requirement to create a provision for those 85 percent."},{"Start":"03:08.705 ","End":"03:12.390","Text":"But we know 10 percent will have"},{"Start":"03:12.390 ","End":"03:18.360","Text":"minor defects and 5 percent will in fact have major defects."},{"Start":"03:18.360 ","End":"03:21.230","Text":"Those are items we need to focus on."},{"Start":"03:21.230 ","End":"03:25.099","Text":"This 10 percent of items having minor defects,"},{"Start":"03:25.099 ","End":"03:30.545","Text":"and at 5 percent of items having major defects."},{"Start":"03:30.545 ","End":"03:38.514","Text":"Now, we\u0027re assuming all sales are taking place at the end of the month and then"},{"Start":"03:38.514 ","End":"03:46.460","Text":"for the purposes of understanding working example to the end at the end of 20X1."},{"Start":"03:46.460 ","End":"03:52.235","Text":"Coming to December of that year, the actual defects,"},{"Start":"03:52.235 ","End":"03:59.290","Text":"it turns out to be that 800 units had minor defects, so 800,"},{"Start":"03:59.290 ","End":"04:01.495","Text":"this is done a different color,"},{"Start":"04:01.495 ","End":"04:09.575","Text":"800 had minor defects and 300 had major defects."},{"Start":"04:09.575 ","End":"04:13.130","Text":"The next step is then to estimate the amount of"},{"Start":"04:13.130 ","End":"04:17.765","Text":"the provision that the entity should recognize."},{"Start":"04:17.765 ","End":"04:21.860","Text":"To estimate the amount the provision based on"},{"Start":"04:21.860 ","End":"04:26.674","Text":"the probability of the bicycles coming back for repairs,"},{"Start":"04:26.674 ","End":"04:30.350","Text":"we need to do the calculation as follows."},{"Start":"04:30.350 ","End":"04:32.765","Text":"You recall from the question,"},{"Start":"04:32.765 ","End":"04:37.910","Text":"85 percent of the goods were estimated to have no defect,"},{"Start":"04:37.910 ","End":"04:41.825","Text":"10 percent of the goods were estimated to have"},{"Start":"04:41.825 ","End":"04:51.785","Text":"a minor defect and 5 percent of the goods were estimated to 1 day have a major defect."},{"Start":"04:51.785 ","End":"04:58.175","Text":"Now, for the 85 percent where there is no defect expected,"},{"Start":"04:58.175 ","End":"05:05.960","Text":"clearly 85 per cent times a 0 cost is equal to 0 provision."},{"Start":"05:05.960 ","End":"05:09.080","Text":"Now coming into the minor defect,"},{"Start":"05:09.080 ","End":"05:13.910","Text":"we know that 10 percent of the goods are estimated to have"},{"Start":"05:13.910 ","End":"05:20.180","Text":"a minor defects to 10 percent of the 10,000 bicycles sold."},{"Start":"05:20.180 ","End":"05:22.775","Text":"Other words, 1,000 bicycles,"},{"Start":"05:22.775 ","End":"05:25.580","Text":"and the estimated cost of that,"},{"Start":"05:25.580 ","End":"05:32.640","Text":"as an amount of £200 or currency units multiplied by"},{"Start":"05:32.640 ","End":"05:41.045","Text":"the 1,000 bicycles will amount to a estimated provision of 200,000."},{"Start":"05:41.045 ","End":"05:46.055","Text":"This year is the currency units or the pound or the dollar."},{"Start":"05:46.055 ","End":"05:53.240","Text":"Whatever currency you\u0027re working in and 5 percent, whatever major defect."},{"Start":"05:53.240 ","End":"05:59.090","Text":"The other words, 5 percent of the 10,000 bicycle sold,"},{"Start":"05:59.090 ","End":"06:00.830","Text":"which is 500 bicycles,"},{"Start":"06:00.830 ","End":"06:03.385","Text":"and again at the same cost."},{"Start":"06:03.385 ","End":"06:08.310","Text":"5 percent, or the 10,000 bicycles sold to farmers had bicycles,"},{"Start":"06:08.310 ","End":"06:17.310","Text":"and the cost of repairing a major defect is in fact £1,000 or currency units per bicycle."},{"Start":"06:17.310 ","End":"06:25.410","Text":"Therefore, 500 times 1,000 comes to a total of 500,000 pounds,"},{"Start":"06:25.410 ","End":"06:27.310","Text":"dollars or currency units."},{"Start":"06:27.310 ","End":"06:35.075","Text":"This gives us a total estimate of the provision that\u0027s required of 700,000."},{"Start":"06:35.075 ","End":"06:38.630","Text":"Therefore, the company has to establish provision of"},{"Start":"06:38.630 ","End":"06:43.620","Text":"700,000 at the end of January of 20X1."},{"Start":"06:43.620 ","End":"06:48.070","Text":"Let\u0027s now take a look at the worksheet to see how this is in fact recorded."},{"Start":"06:48.070 ","End":"06:54.760","Text":"Let\u0027s now see how the provision is recognized in the accounting equation worksheet."},{"Start":"06:54.760 ","End":"06:57.970","Text":"Now here\u0027s the worksheet. We know that assets are equal to"},{"Start":"06:57.970 ","End":"07:01.719","Text":"liabilities plus owner\u0027s equity."},{"Start":"07:01.719 ","End":"07:08.025","Text":"When we establish the provision at the end of January of the 20X1 year,"},{"Start":"07:08.025 ","End":"07:11.505","Text":"we need to create an expense."},{"Start":"07:11.505 ","End":"07:15.922","Text":"The income statement is debited,"},{"Start":"07:15.922 ","End":"07:18.045","Text":"but the equity is reduced."},{"Start":"07:18.045 ","End":"07:24.839","Text":"This is the debit to the expense for the warranty provision expense,"},{"Start":"07:24.839 ","End":"07:29.340","Text":"warranty expense, and the credit goes to"},{"Start":"07:29.340 ","End":"07:34.860","Text":"the liability account called the provision for warranties."},{"Start":"07:34.860 ","End":"07:39.585","Text":"This is the credit going to the liability account."},{"Start":"07:39.585 ","End":"07:42.855","Text":"Debit to a warranty expense account,"},{"Start":"07:42.855 ","End":"07:48.376","Text":"and credit to a liability account provision for the warranty expense,"},{"Start":"07:48.376 ","End":"07:53.190","Text":"that recognizes the expense in the month of January,"},{"Start":"07:53.190 ","End":"08:01.080","Text":"and creates the obligation that the entity has to affect these repairs going forward."},{"Start":"08:01.080 ","End":"08:05.234","Text":"We then know between February and December,"},{"Start":"08:05.234 ","End":"08:08.895","Text":"certain bicycles come in for repairs."},{"Start":"08:08.895 ","End":"08:14.070","Text":"Now we know that from the question that 800 bicycles,"},{"Start":"08:14.070 ","End":"08:17.745","Text":"in fact came in for minor repairs,"},{"Start":"08:17.745 ","End":"08:22.680","Text":"and these minor repairs cost 200 currency units each,"},{"Start":"08:22.680 ","End":"08:28.905","Text":"other words a total of 160,000 currency units."},{"Start":"08:28.905 ","End":"08:31.005","Text":"To record that,"},{"Start":"08:31.005 ","End":"08:34.560","Text":"and assuming the repairs are paid for in cash by the entity,"},{"Start":"08:34.560 ","End":"08:37.530","Text":"the entity will credit or decrease the cash,"},{"Start":"08:37.530 ","End":"08:40.605","Text":"or the amount of 160,000."},{"Start":"08:40.605 ","End":"08:43.980","Text":"This is the credit going to the asset cash,"},{"Start":"08:43.980 ","End":"08:46.920","Text":"and there\u0027s no entry."},{"Start":"08:46.920 ","End":"08:50.760","Text":"Now note there\u0027s no entry with inequity because the expense was"},{"Start":"08:50.760 ","End":"08:55.725","Text":"created at the time the goods were sold back in January."},{"Start":"08:55.725 ","End":"09:00.465","Text":"The debit now, goes against the provision for warranty expenses,"},{"Start":"09:00.465 ","End":"09:03.165","Text":"to the extent of 160,000."},{"Start":"09:03.165 ","End":"09:05.069","Text":"That\u0027s a debit to the liability,"},{"Start":"09:05.069 ","End":"09:07.290","Text":"the provision for warranty."},{"Start":"09:07.290 ","End":"09:09.990","Text":"Then we know from the question as well,"},{"Start":"09:09.990 ","End":"09:15.660","Text":"that in fact 300 bicycles came back for major repairs."},{"Start":"09:15.660 ","End":"09:17.325","Text":"The major repairs,"},{"Start":"09:17.325 ","End":"09:22.350","Text":"cost the amount of 1,000 currency units each,"},{"Start":"09:22.350 ","End":"09:32.775","Text":"which gives a total of 300,000 currency units for the cost of the major repairs."},{"Start":"09:32.775 ","End":"09:37.305","Text":"The same entry, assuming the entity pays for these repairs in cash,"},{"Start":"09:37.305 ","End":"09:42.380","Text":"there\u0027ll be a credit to cash for 300,000,"},{"Start":"09:42.380 ","End":"09:46.740","Text":"again no effect or debit on the income statement,"},{"Start":"09:46.740 ","End":"09:50.250","Text":"but rather a debit to the provision account"},{"Start":"09:50.250 ","End":"09:55.530","Text":"utilizing part of the provision for the amount of 300,000."},{"Start":"09:55.530 ","End":"09:58.560","Text":"That\u0027s a debit to the liability account."},{"Start":"09:58.560 ","End":"10:01.245","Text":"The balance is now at the end of the period,"},{"Start":"10:01.245 ","End":"10:08.055","Text":"will show a balance of 460,000 negative in cash,"},{"Start":"10:08.055 ","End":"10:10.632","Text":"this is assuming no cash balance to begin with,"},{"Start":"10:10.632 ","End":"10:13.184","Text":"to know overdraft in this example,"},{"Start":"10:13.184 ","End":"10:21.300","Text":"the provision account has a balance of 240,000 as liability,"},{"Start":"10:21.300 ","End":"10:25.050","Text":"the initial 700,000 plus number over here,"},{"Start":"10:25.050 ","End":"10:28.875","Text":"less the 160,000 debit for the minor repairs,"},{"Start":"10:28.875 ","End":"10:34.005","Text":"and less the 300,000 debit for the major repairs."},{"Start":"10:34.005 ","End":"10:36.285","Text":"In this current period,"},{"Start":"10:36.285 ","End":"10:38.535","Text":"equity or the income statement,"},{"Start":"10:38.535 ","End":"10:42.795","Text":"took a charge for the entire 700,000,"},{"Start":"10:42.795 ","End":"10:49.065","Text":"which was the initial expense recognized for the provision."},{"Start":"10:49.065 ","End":"10:52.230","Text":"At the end of the year, the company has to assess whether"},{"Start":"10:52.230 ","End":"10:55.425","Text":"that balance of 240,000, the provision,"},{"Start":"10:55.425 ","End":"10:59.220","Text":"is the appropriate amount to recognize as"},{"Start":"10:59.220 ","End":"11:04.260","Text":"a provision to cover in this case the last 1 month of the warranty,"},{"Start":"11:04.260 ","End":"11:08.445","Text":"the warranty expiring end of January of the following year."},{"Start":"11:08.445 ","End":"11:15.975","Text":"Because remember we assumed all sales to place on 31 January of the X1 year, so firstly,"},{"Start":"11:15.975 ","End":"11:22.020","Text":"let\u0027s assume that the entity assesses that only a 120,000 is needed,"},{"Start":"11:22.020 ","End":"11:25.575","Text":"other words less than this 240,"},{"Start":"11:25.575 ","End":"11:29.700","Text":"which is recorded as the provision currently,"},{"Start":"11:29.700 ","End":"11:34.125","Text":"an addressable then we required at the end of the year,"},{"Start":"11:34.125 ","End":"11:36.585","Text":"which is shown as follows."},{"Start":"11:36.585 ","End":"11:40.125","Text":"You will see the balance in the provision account at the moments,"},{"Start":"11:40.125 ","End":"11:42.465","Text":"is in 240,000,"},{"Start":"11:42.465 ","End":"11:45.975","Text":"which we computed on the previous slide,"},{"Start":"11:45.975 ","End":"11:52.065","Text":"and now it\u0027s only 120,000 is estimated to be required for the following month,"},{"Start":"11:52.065 ","End":"11:56.670","Text":"the agency will reverse 120,000 of the provision."},{"Start":"11:56.670 ","End":"12:03.315","Text":"Other words, a debit to the provision account for 120,000,"},{"Start":"12:03.315 ","End":"12:05.970","Text":"this reduces the provision,"},{"Start":"12:05.970 ","End":"12:12.990","Text":"and 120,000 reversal of the provision on the income statement."},{"Start":"12:12.990 ","End":"12:15.375","Text":"Other words a credit to the income statement,"},{"Start":"12:15.375 ","End":"12:18.360","Text":"for a warranty expense reversed."},{"Start":"12:18.360 ","End":"12:23.640","Text":"This now give us a balance at the end of the period of 120,000."},{"Start":"12:23.640 ","End":"12:25.515","Text":"In the liability account,"},{"Start":"12:25.515 ","End":"12:32.970","Text":"the cash doesn\u0027t change the balance remains in this case the overdraft, of 460,000,"},{"Start":"12:32.970 ","End":"12:35.850","Text":"and the net effect on the income statement,"},{"Start":"12:35.850 ","End":"12:42.240","Text":"in fact is the amount of 580,000 net amount of charge to the income statement,"},{"Start":"12:42.240 ","End":"12:46.800","Text":"in relation to this particular sale of bicycles,"},{"Start":"12:46.800 ","End":"12:49.050","Text":"and the related warranty."},{"Start":"12:49.050 ","End":"12:53.415","Text":"Example then continues in the January 20X2 year,"},{"Start":"12:53.415 ","End":"12:57.195","Text":"and now assume in the January 20X2 year,"},{"Start":"12:57.195 ","End":"13:00.045","Text":"the actual cost of repairs under warranty,"},{"Start":"13:00.045 ","End":"13:02.580","Text":"is in fact more than what was estimated."},{"Start":"13:02.580 ","End":"13:07.050","Text":"The actual cost of repairs is in fact 150,000."},{"Start":"13:07.050 ","End":"13:12.975","Text":"But note that the balance in the provision accounts, is only 120,000."},{"Start":"13:12.975 ","End":"13:15.885","Text":"To record the cost of repairs in January,"},{"Start":"13:15.885 ","End":"13:17.655","Text":"as we recorded before,"},{"Start":"13:17.655 ","End":"13:19.770","Text":"assuming it\u0027s all paid in cash,"},{"Start":"13:19.770 ","End":"13:26.490","Text":"there must be a 150,000 credit to cash or reduction asset cash,"},{"Start":"13:26.490 ","End":"13:33.450","Text":"the maximum amount we can clearly take from the provision, is 120,000."},{"Start":"13:33.450 ","End":"13:35.594","Text":"That\u0027ll be a debit to the provision,"},{"Start":"13:35.594 ","End":"13:38.370","Text":"which in fact here\u0027s the provision down to 0,"},{"Start":"13:38.370 ","End":"13:40.815","Text":"and the remaining 30,000,"},{"Start":"13:40.815 ","End":"13:45.090","Text":"therefore needs to be expensed in the current year."},{"Start":"13:45.090 ","End":"13:48.090","Text":"30,000 or so it goes a debit,"},{"Start":"13:48.090 ","End":"13:50.385","Text":"to a warranty expense."},{"Start":"13:50.385 ","End":"13:55.230","Text":"The full entry will therefore be a debit to warranty expense,"},{"Start":"13:55.230 ","End":"13:59.250","Text":"here you\u0027ll see of the 80,000 a debit to"},{"Start":"13:59.250 ","End":"14:04.635","Text":"the provision for warranty expense of the full balance of 120,000,"},{"Start":"14:04.635 ","End":"14:08.655","Text":"and a credit to cash of 150,000."},{"Start":"14:08.655 ","End":"14:16.190","Text":"The balance is we now get this increase in this example to an overdraft of 610,000,"},{"Start":"14:16.190 ","End":"14:20.195","Text":"this could be 0 balance left in the provision,"},{"Start":"14:20.195 ","End":"14:28.530","Text":"and the total effect on the income statement is a charge of 610,000."}],"ID":30300},{"Watched":false,"Name":"Provision for Litigation Costs","Duration":"12m 47s","ChapterTopicVideoID":28794,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.000 ","End":"00:02.640","Text":"Hello, and welcome to this series of"},{"Start":"00:02.640 ","End":"00:08.290","Text":"video presentations on Provisions brought to you by Proprep."},{"Start":"00:08.480 ","End":"00:14.640","Text":"In this video, we will focus on the provision for litigation costs."},{"Start":"00:14.640 ","End":"00:17.295","Text":"Now, as you may be well aware,"},{"Start":"00:17.295 ","End":"00:21.360","Text":"many companies could be sued by various parties for variety of"},{"Start":"00:21.360 ","End":"00:27.525","Text":"reasons and enter into lengthy legal processes."},{"Start":"00:27.525 ","End":"00:30.900","Text":"Importantly here, the outcome is going to"},{"Start":"00:30.900 ","End":"00:34.275","Text":"be uncertain and once we have an uncertain outcome,"},{"Start":"00:34.275 ","End":"00:39.010","Text":"we have the potential for a provision to be recognized."},{"Start":"00:39.010 ","End":"00:42.155","Text":"There are various noise which could apply,"},{"Start":"00:42.155 ","End":"00:44.269","Text":"such as employment disputes,"},{"Start":"00:44.269 ","End":"00:48.155","Text":"environmental damages, or in fact, even tax disputes."},{"Start":"00:48.155 ","End":"00:53.450","Text":"Each case is different and needs to be looked at separately and independently."},{"Start":"00:53.450 ","End":"00:59.060","Text":"Now, because we are dealing with both an accounting and a legal scenario,"},{"Start":"00:59.060 ","End":"01:05.520","Text":"managers, directors will typically seek advice from lawyers and experts."},{"Start":"01:05.630 ","End":"01:13.855","Text":"The most likely amount should be recognized when estimating the amount of the provision."},{"Start":"01:13.855 ","End":"01:18.710","Text":"While the provision is recognized as an expense in"},{"Start":"01:18.710 ","End":"01:20.000","Text":"the income statement with"},{"Start":"01:20.000 ","End":"01:24.815","Text":"the corresponding liability for each scenario on the financial statements,"},{"Start":"01:24.815 ","End":"01:28.025","Text":"disclosure is in aggregate."},{"Start":"01:28.025 ","End":"01:31.475","Text":"Take a look at an example here."},{"Start":"01:31.475 ","End":"01:36.065","Text":"The company Alfa PLC is preparing its 20X0 financial statements."},{"Start":"01:36.065 ","End":"01:41.540","Text":"The company is engaged in a legal suit concerning compensation to former employees."},{"Start":"01:41.540 ","End":"01:43.640","Text":"Now, in terms of estimating,"},{"Start":"01:43.640 ","End":"01:45.835","Text":"management and legal advisors,"},{"Start":"01:45.835 ","End":"01:48.710","Text":"estimate the settlement to be"},{"Start":"01:48.710 ","End":"01:56.015","Text":"potentially 600 managers with legal advisors estimate the settlement to be potentially"},{"Start":"01:56.015 ","End":"01:58.760","Text":"100,000 currency units and there\u0027s"},{"Start":"01:58.760 ","End":"02:03.780","Text":"a 60 percent probability of that happening or potentially"},{"Start":"02:03.780 ","End":"02:12.090","Text":"also 120,000 settlement amount and a 40 percent probability of that happening."},{"Start":"02:12.090 ","End":"02:15.050","Text":"We know that accounting standards require provision to be"},{"Start":"02:15.050 ","End":"02:19.580","Text":"established and we could estimate the provision using"},{"Start":"02:19.580 ","End":"02:24.635","Text":"the probabilities of the 2 different potential amounts"},{"Start":"02:24.635 ","End":"02:28.000","Text":"which the company might be required to pay."},{"Start":"02:28.000 ","End":"02:36.480","Text":"In this case, we have a potential to pay currency units of 100,000 with"},{"Start":"02:36.480 ","End":"02:41.950","Text":"a 60 percent probability or we have a potential to"},{"Start":"02:41.950 ","End":"02:50.110","Text":"pay 120,000 with a probability of only 40 percent."},{"Start":"02:50.110 ","End":"02:51.820","Text":"If we add these 2 together,"},{"Start":"02:51.820 ","End":"02:57.760","Text":"60 percent of 100,000 plus 40 percent of 120,000 gives"},{"Start":"02:57.760 ","End":"03:03.775","Text":"us an estimated provision of 108,000 currency units."},{"Start":"03:03.775 ","End":"03:06.415","Text":"However, for the purposes of the example,"},{"Start":"03:06.415 ","End":"03:10.760","Text":"we\u0027re going to assume that the provision is created at 100,000."},{"Start":"03:10.760 ","End":"03:14.070","Text":"Other words, taking the 60 percent probability,"},{"Start":"03:14.070 ","End":"03:18.395","Text":"and in the later year in 20X1,"},{"Start":"03:18.395 ","End":"03:24.640","Text":"the disputes are settled and the company agrees to pay an amount of 90,000."},{"Start":"03:24.640 ","End":"03:30.710","Text":"To recap. It is setting the provision 100,000 and ultimately upon settlement,"},{"Start":"03:30.710 ","End":"03:33.425","Text":"the settlement amount turns out to be less,"},{"Start":"03:33.425 ","End":"03:36.570","Text":"in fact, early 90,000."},{"Start":"03:37.720 ","End":"03:41.330","Text":"Let\u0027s just now record the information in"},{"Start":"03:41.330 ","End":"03:44.945","Text":"the question on the accounting equation worksheet."},{"Start":"03:44.945 ","End":"03:52.440","Text":"Again, we see the worksheet here of assets equals liabilities plus owner\u0027s equity."},{"Start":"03:52.790 ","End":"03:55.595","Text":"What do we know from the question?"},{"Start":"03:55.595 ","End":"04:05.105","Text":"The entity has decided to recognize the provision of 100,000 at the end of the 20X0 year."},{"Start":"04:05.105 ","End":"04:10.430","Text":"Therefore, there must be a debit to the income statement of 100,000,"},{"Start":"04:10.430 ","End":"04:14.825","Text":"the provision expense, this is the debit,"},{"Start":"04:14.825 ","End":"04:16.775","Text":"go into the income statement,"},{"Start":"04:16.775 ","End":"04:26.265","Text":"the provision for the loss and the liability is created for the amount of 100,000."},{"Start":"04:26.265 ","End":"04:31.050","Text":"This is in fact, the credit to the liability account."},{"Start":"04:31.640 ","End":"04:35.840","Text":"As we know from previous video presentations,"},{"Start":"04:35.840 ","End":"04:37.520","Text":"we know at the end of the year,"},{"Start":"04:37.520 ","End":"04:42.805","Text":"expense items are closed off to retained earnings."},{"Start":"04:42.805 ","End":"04:48.950","Text":"Therefore, we need to reduce retained earnings by the same amount expense of 100,000."},{"Start":"04:48.950 ","End":"04:54.065","Text":"We simply close off the income statement expense item,"},{"Start":"04:54.065 ","End":"04:59.780","Text":"which brings the balance in the expense and the income statement expense item to 0,"},{"Start":"04:59.780 ","End":"05:04.310","Text":"and there\u0027s clearly a 100,000 balance in this case,"},{"Start":"05:04.310 ","End":"05:07.910","Text":"negative in retained earnings, which in fact,"},{"Start":"05:07.910 ","End":"05:12.470","Text":"represents the amount that we created for the provision."},{"Start":"05:12.470 ","End":"05:16.470","Text":"There\u0027s been no cash movement in this case, so far."},{"Start":"05:16.470 ","End":"05:19.350","Text":"We then go into 20X1 year."},{"Start":"05:19.350 ","End":"05:25.010","Text":"You recall the question said to us in 20X1 year that this dispute"},{"Start":"05:25.010 ","End":"05:30.890","Text":"is finally settled and an amount of early 90,000 is in fact paid."},{"Start":"05:30.890 ","End":"05:33.680","Text":"Therefore, when we pay the 90,000,"},{"Start":"05:33.680 ","End":"05:38.645","Text":"the entity has to reduce cash by 90,000."},{"Start":"05:38.645 ","End":"05:42.605","Text":"The 90,000 is in fact the credit going into cash."},{"Start":"05:42.605 ","End":"05:45.545","Text":"As we saw in the previous examples,"},{"Start":"05:45.545 ","End":"05:49.270","Text":"the provision is now no longer required."},{"Start":"05:49.270 ","End":"05:55.130","Text":"In fact, we can reverse the entire amount of the provision for"},{"Start":"05:55.130 ","End":"05:58.190","Text":"100,000 and because we in fact"},{"Start":"05:58.190 ","End":"06:02.900","Text":"had overestimated the amount of provision in the prior year,"},{"Start":"06:02.900 ","End":"06:09.935","Text":"there\u0027s now a 10,000 credit going back to the income statement."},{"Start":"06:09.935 ","End":"06:13.495","Text":"Let\u0027s just put the debit in here for the provision."},{"Start":"06:13.495 ","End":"06:17.030","Text":"Just to look at this settlement entry again,"},{"Start":"06:17.030 ","End":"06:22.505","Text":"there\u0027s a credit gain to cash to power the cash for 90,000."},{"Start":"06:22.505 ","End":"06:27.305","Text":"There\u0027s a credit going to the income statement to reverse"},{"Start":"06:27.305 ","End":"06:30.521","Text":"10,000 or the provision no longer required and"},{"Start":"06:30.521 ","End":"06:33.845","Text":"there\u0027s a 100,000 debit go into the provision account,"},{"Start":"06:33.845 ","End":"06:38.270","Text":"which brings the provision account back down to 0 because"},{"Start":"06:38.270 ","End":"06:43.220","Text":"this dispute as an effect now closed and no further provision is required."},{"Start":"06:43.220 ","End":"06:46.485","Text":"Then because there\u0027s this 10,000"},{"Start":"06:46.485 ","End":"06:50.930","Text":"credit or reversal of the provision sitting in the income statement."},{"Start":"06:50.930 ","End":"06:58.130","Text":"This can be closed off in the year to retained earnings 10,000 as the reduction in"},{"Start":"06:58.130 ","End":"07:06.080","Text":"the income statement amount and a 10,000 credit into retained earnings,"},{"Start":"07:06.080 ","End":"07:09.380","Text":"which increases the company\u0027s retained earnings."},{"Start":"07:09.380 ","End":"07:13.160","Text":"We get to a closing balances and the net effect of"},{"Start":"07:13.160 ","End":"07:18.425","Text":"these transactions is 90,000 on retained earnings."},{"Start":"07:18.425 ","End":"07:24.280","Text":"Clearly, the original 100,000 which was expense when the provision was"},{"Start":"07:24.280 ","End":"07:27.565","Text":"created and a 10,000 reversal"},{"Start":"07:27.565 ","End":"07:32.485","Text":"because of the overestimation of the amount of the provision."},{"Start":"07:32.485 ","End":"07:36.500","Text":"The income statement amount to be cleared down to 0."},{"Start":"07:36.500 ","End":"07:43.330","Text":"As I said, no balance in the provision account because this case is now dealt with,"},{"Start":"07:43.330 ","End":"07:45.280","Text":"it\u0027s closed and there\u0027s no need to have"},{"Start":"07:45.280 ","End":"07:49.180","Text":"any further provision unlike a warranty provision,"},{"Start":"07:49.180 ","End":"07:55.465","Text":"for example, where the entity may want to carry a provision forward into future years."},{"Start":"07:55.465 ","End":"07:59.950","Text":"This particular example, the cash works out into an overdraft"},{"Start":"07:59.950 ","End":"08:04.294","Text":"of 90,000 cash paid in settlement."},{"Start":"08:04.294 ","End":"08:06.890","Text":"Continuing with this example,"},{"Start":"08:06.890 ","End":"08:08.960","Text":"and now a further assumption,"},{"Start":"08:08.960 ","End":"08:13.085","Text":"let\u0027s assume that originally management estimated"},{"Start":"08:13.085 ","End":"08:19.670","Text":"the provision to be 80,000 as opposed to 100,000 on the previous slide."},{"Start":"08:19.670 ","End":"08:21.335","Text":"We\u0027ll work for the numbers again,"},{"Start":"08:21.335 ","End":"08:23.870","Text":"with the only difference being, as I said,"},{"Start":"08:23.870 ","End":"08:27.515","Text":"this 80,000 as the amount of the original provision,"},{"Start":"08:27.515 ","End":"08:29.600","Text":"as opposed to 100,000,"},{"Start":"08:29.600 ","End":"08:33.165","Text":"as I said on the previous slide."},{"Start":"08:33.165 ","End":"08:36.180","Text":"To create a provision for 80,000,"},{"Start":"08:36.180 ","End":"08:42.350","Text":"there\u0027s a debit to the income statement, a compensation expense,"},{"Start":"08:42.350 ","End":"08:45.215","Text":"debit for 80,000,"},{"Start":"08:45.215 ","End":"08:48.110","Text":"and the liability provision for"},{"Start":"08:48.110 ","End":"08:53.420","Text":"compensation as takes the credit for the amount of 80,000 as well."},{"Start":"08:53.420 ","End":"08:55.865","Text":"As always at the end of the period,"},{"Start":"08:55.865 ","End":"08:59.015","Text":"income and expenses are transferred to retained earnings."},{"Start":"08:59.015 ","End":"09:05.555","Text":"We transfer this 80,000 income statement expense and retained earnings."},{"Start":"09:05.555 ","End":"09:09.170","Text":"Look in this item alone is decreased by an amount of 80,000."},{"Start":"09:09.170 ","End":"09:12.680","Text":"The balances, there\u0027s been no cash paid out as yet."},{"Start":"09:12.680 ","End":"09:18.880","Text":"The liability for this provision sits at the amount of 80,000."},{"Start":"09:18.880 ","End":"09:21.830","Text":"Income statement is being reduced to 0 and"},{"Start":"09:21.830 ","End":"09:28.965","Text":"the retained earnings for this item shows an 80,000 reduction in effect."},{"Start":"09:28.965 ","End":"09:32.885","Text":"Coming into 20X1 year, the settlement,"},{"Start":"09:32.885 ","End":"09:35.525","Text":"same settlement as in the previous example,"},{"Start":"09:35.525 ","End":"09:40.415","Text":"the amount we end up paying is an amount of 90,000."},{"Start":"09:40.415 ","End":"09:48.640","Text":"So 90,000 goes as a credit to cash and the balance in the provision is 80,000."},{"Start":"09:48.640 ","End":"09:52.045","Text":"In fact, when we estimated 80,000,"},{"Start":"09:52.045 ","End":"09:56.930","Text":"you\u0027ll see underestimating the amount of the provision."},{"Start":"09:56.930 ","End":"10:04.520","Text":"We can clearly only take an amount of 80,000 from the provision account to debit,"},{"Start":"10:04.520 ","End":"10:07.780","Text":"to bring it down to 0 because that\u0027s the balance of 80,000."},{"Start":"10:07.780 ","End":"10:13.400","Text":"Now, the entity has to incur a further expense loss in"},{"Start":"10:13.400 ","End":"10:16.850","Text":"the current year of 10,000 caused by"},{"Start":"10:16.850 ","End":"10:21.260","Text":"the underestimation of the provision in the previous year."},{"Start":"10:21.260 ","End":"10:24.185","Text":"To recap this last entry."},{"Start":"10:24.185 ","End":"10:28.610","Text":"There\u0027s a cash payment of 90,000. Credit to"},{"Start":"10:28.610 ","End":"10:33.110","Text":"cash is a debit against the provision liability to the extent of"},{"Start":"10:33.110 ","End":"10:37.475","Text":"the balance of 80,000 and the excess of 10,000"},{"Start":"10:37.475 ","End":"10:42.560","Text":"goes as an expense in the income statement in the current year."},{"Start":"10:42.560 ","End":"10:44.750","Text":"Again, we close off the income statement,"},{"Start":"10:44.750 ","End":"10:48.290","Text":"we transfer the balance to retained earnings,"},{"Start":"10:48.290 ","End":"10:52.310","Text":"and there\u0027s a 10,000 transfer out of the income statement,"},{"Start":"10:52.310 ","End":"10:58.355","Text":"which results in a 10,000 debit or charge into retained earnings."},{"Start":"10:58.355 ","End":"11:03.739","Text":"This gives us a balance for these transactions of 90,000,"},{"Start":"11:03.739 ","End":"11:06.350","Text":"as you would expect, but in this case,"},{"Start":"11:06.350 ","End":"11:11.180","Text":"it was charged 80,000 here in the previous year when"},{"Start":"11:11.180 ","End":"11:17.795","Text":"the estimate was only 80,000 and the additional 10,000 is charged in the current year,"},{"Start":"11:17.795 ","End":"11:23.510","Text":"when in fact the final compensation amount of 90,000 is actually paid."},{"Start":"11:23.510 ","End":"11:25.160","Text":"As in the previous example,"},{"Start":"11:25.160 ","End":"11:30.695","Text":"the 90,000 effect of the negative cash balance is the same."},{"Start":"11:30.695 ","End":"11:36.875","Text":"Also there\u0027s clearly no balance in the provision liability account."},{"Start":"11:36.875 ","End":"11:39.110","Text":"Looking at another example,"},{"Start":"11:39.110 ","End":"11:41.430","Text":"this is purely based on measurement."},{"Start":"11:41.430 ","End":"11:43.670","Text":"This company Beta PLC is preparing"},{"Start":"11:43.670 ","End":"11:47.929","Text":"its financial statements and it is involved in a legal case,"},{"Start":"11:47.929 ","End":"11:49.790","Text":"disputing a government fine,"},{"Start":"11:49.790 ","End":"11:53.090","Text":"for this case, alleged environmental contamination."},{"Start":"11:53.090 ","End":"11:57.515","Text":"Again, there needs to be an estimate of the amount of the provision and"},{"Start":"11:57.515 ","End":"12:01.610","Text":"the company\u0027s legal advisors estimated"},{"Start":"12:01.610 ","End":"12:05.480","Text":"the amount that will be required to be paid could be anything"},{"Start":"12:05.480 ","End":"12:10.580","Text":"between 80,000 currency units and 100,000 currency units."},{"Start":"12:10.580 ","End":"12:14.615","Text":"There\u0027s an equal probability for each outcome."},{"Start":"12:14.615 ","End":"12:19.070","Text":"Here, accounting standards require in the provision to be set at"},{"Start":"12:19.070 ","End":"12:23.900","Text":"an amount of 90,000 which we can compute by simply taking"},{"Start":"12:23.900 ","End":"12:28.575","Text":"the currency units estimates of 80,000 with"},{"Start":"12:28.575 ","End":"12:33.125","Text":"a 50 percent probability and adding on the estimate"},{"Start":"12:33.125 ","End":"12:38.210","Text":"of 100,000 currency units also at a 50 percent probability,"},{"Start":"12:38.210 ","End":"12:42.260","Text":"and those 2 together give us the estimation of"},{"Start":"12:42.260 ","End":"12:47.460","Text":"the amount of the provision at an amount of 90,000."}],"ID":30301},{"Watched":false,"Name":"Provision for Environmental Costs","Duration":"8m 14s","ChapterTopicVideoID":28795,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.150 ","End":"00:03.160","Text":"Hello and welcome to this series of"},{"Start":"00:03.160 ","End":"00:08.664","Text":"video presentations on provisions brought to you by Proprep."},{"Start":"00:08.664 ","End":"00:11.650","Text":"In this last video in the series,"},{"Start":"00:11.650 ","End":"00:17.064","Text":"we will look at the provisions for environmental and clean-up costs."},{"Start":"00:17.064 ","End":"00:19.030","Text":"Now, as you can imagine,"},{"Start":"00:19.030 ","End":"00:20.890","Text":"there are certain industries,"},{"Start":"00:20.890 ","End":"00:25.345","Text":"specifically extractive and power generation where"},{"Start":"00:25.345 ","End":"00:30.635","Text":"clean-up costs and decommissioning costs are normal parts of business operations."},{"Start":"00:30.635 ","End":"00:36.385","Text":"The accounting here distinguishes between 2 types of costs."},{"Start":"00:36.385 ","End":"00:40.675","Text":"Those costs which are anticipated but uncertain,"},{"Start":"00:40.675 ","End":"00:44.385","Text":"and those costs, which are in fact unanticipated."},{"Start":"00:44.385 ","End":"00:48.145","Text":"The anticipated costs give rise to provision,"},{"Start":"00:48.145 ","End":"00:54.020","Text":"but this provision is balanced by an asset as opposed to an expense,"},{"Start":"00:54.020 ","End":"00:57.041","Text":"which we saw in previous examples."},{"Start":"00:57.041 ","End":"01:03.230","Text":"Then unanticipated costs come about on the occurrence of an event."},{"Start":"01:03.230 ","End":"01:08.240","Text":"They are treated as provision and are balanced typically by an expense,"},{"Start":"01:08.240 ","End":"01:11.465","Text":"as we also saw in previous examples."},{"Start":"01:11.465 ","End":"01:13.805","Text":"In the example we\u0027re looking at here,"},{"Start":"01:13.805 ","End":"01:15.500","Text":"we have a company, EDF."},{"Start":"01:15.500 ","End":"01:22.410","Text":"It currently operates a nuclear power plant and has a legal obligation as"},{"Start":"01:22.410 ","End":"01:25.525","Text":"opposed to constructive obligation to"},{"Start":"01:25.525 ","End":"01:30.215","Text":"decontaminate the site upon closure of the facility."},{"Start":"01:30.215 ","End":"01:36.935","Text":"This is in terms of regulation requiring the decommissioning of nuclear power plants."},{"Start":"01:36.935 ","End":"01:39.845","Text":"Now, what information do we know?"},{"Start":"01:39.845 ","End":"01:45.530","Text":"The company spends 10 billion currency units on constructing the plan,"},{"Start":"01:45.530 ","End":"01:48.650","Text":"and then there are current estimates which say"},{"Start":"01:48.650 ","End":"01:54.720","Text":"the decommissioning costs will amount to 1 billion currency units,"},{"Start":"01:54.720 ","End":"01:57.235","Text":"but only in 20 years\u0027 time."},{"Start":"01:57.235 ","End":"02:00.710","Text":"Now, the problem we have here in relation"},{"Start":"02:00.710 ","End":"02:05.165","Text":"to creating a provision for the decommissioning costs,"},{"Start":"02:05.165 ","End":"02:09.680","Text":"is that this first 10 billion is in fact what"},{"Start":"02:09.680 ","End":"02:14.255","Text":"we\u0027re going to regard as a present value because it\u0027s a value in today\u0027s money,"},{"Start":"02:14.255 ","End":"02:17.060","Text":"whereas this 1 billion,"},{"Start":"02:17.060 ","End":"02:20.765","Text":"we can refer to here as a future value"},{"Start":"02:20.765 ","End":"02:26.690","Text":"because it is an amount that will be incurred in this case in 20 years\u0027 time."},{"Start":"02:26.690 ","End":"02:30.830","Text":"We\u0027ll talk more about that in a moment."},{"Start":"02:30.830 ","End":"02:36.815","Text":"We told the power plant starts operations on 1 January of the x1 year,"},{"Start":"02:36.815 ","End":"02:43.370","Text":"and a concept now called the present value of the decommissioning costs."},{"Start":"02:43.370 ","End":"02:51.440","Text":"In other words, this £1 billion which we spoke about earlier on,"},{"Start":"02:51.440 ","End":"02:54.620","Text":"which will be a decommissioning cost in 20 years\u0027 time."},{"Start":"02:54.620 ","End":"02:59.270","Text":"We need to equate that to what it is in fact worth today."},{"Start":"02:59.270 ","End":"03:03.215","Text":"There\u0027ll be a longer discussion on the concept of present values"},{"Start":"03:03.215 ","End":"03:07.955","Text":"in a further series of videos dealing with liabilities."},{"Start":"03:07.955 ","End":"03:12.665","Text":"But to explain it for the purposes of understanding this example,"},{"Start":"03:12.665 ","End":"03:20.495","Text":"what we\u0027re seeing here is that the £1 billion is in fact a future value."},{"Start":"03:20.495 ","End":"03:26.635","Text":"Here is 20 years\u0027 time and that £1 billion,"},{"Start":"03:26.635 ","End":"03:29.550","Text":"use b as an abbreviation,"},{"Start":"03:29.550 ","End":"03:33.320","Text":"is the future value in 20 years\u0027 time."},{"Start":"03:33.320 ","End":"03:39.175","Text":"We want to establish now what in fact is the present value today."},{"Start":"03:39.175 ","End":"03:47.180","Text":"To do that, to bring the £1 billion back to a present-day value,"},{"Start":"03:47.180 ","End":"03:51.770","Text":"we use the concept of a discounting rate,"},{"Start":"03:51.770 ","End":"03:53.960","Text":"which is a concept as I say,"},{"Start":"03:53.960 ","End":"03:57.020","Text":"you\u0027ll learn about in the liabilities videos."},{"Start":"03:57.020 ","End":"03:59.180","Text":"Doing the calculation,"},{"Start":"03:59.180 ","End":"04:05.465","Text":"the numbers we get over here shows us that the present value of the"},{"Start":"04:05.465 ","End":"04:14.210","Text":"£1 billion in 20 years\u0027 time is today 0,673 billion."},{"Start":"04:14.210 ","End":"04:17.635","Text":"In other words, £673 million."},{"Start":"04:17.635 ","End":"04:25.055","Text":"You\u0027re further told that the power plant has depreciated on the straight line basis."},{"Start":"04:25.055 ","End":"04:28.280","Text":"Therefore, on the 1st of January of the x1 year,"},{"Start":"04:28.280 ","End":"04:33.990","Text":"the company reports a PPE of 10.763 billion."},{"Start":"04:33.990 ","End":"04:38.915","Text":"The accounting entries will be a debit to property, plant, and equipment,"},{"Start":"04:38.915 ","End":"04:46.140","Text":"which is the asset of 10,673 billion,"},{"Start":"04:46.140 ","End":"04:54.980","Text":"that comprising the 10 billion cost of the plant itself and the 0,673"},{"Start":"04:54.980 ","End":"04:59.150","Text":"billion present value of"},{"Start":"04:59.150 ","End":"05:04.865","Text":"the estimated decommissioning costs both debited and regarded as an asset."},{"Start":"05:04.865 ","End":"05:07.640","Text":"Then there\u0027s a credit to bank,"},{"Start":"05:07.640 ","End":"05:12.320","Text":"which is the amount assuming that the plant is paid for in cash."},{"Start":"05:12.320 ","End":"05:17.790","Text":"The credit to bank for the 10 billion,"},{"Start":"05:17.790 ","End":"05:19.790","Text":"and these are in billions."},{"Start":"05:19.790 ","End":"05:23.980","Text":"Currency unit billion for the amount paid,"},{"Start":"05:23.980 ","End":"05:29.010","Text":"and the remaining or the balance goes to this provision."},{"Start":"05:29.270 ","End":"05:34.790","Text":"The liability, the provision for decommissioning costs of"},{"Start":"05:34.790 ","End":"05:41.765","Text":"0,673 billion or as I said, £673 million."},{"Start":"05:41.765 ","End":"05:44.540","Text":"For the 2021 financial statements,"},{"Start":"05:44.540 ","End":"05:52.610","Text":"the company will show or report a depreciation expense of 0.534 billion,"},{"Start":"05:52.610 ","End":"05:57.495","Text":"which is computed based on the cost of the plant."},{"Start":"05:57.495 ","End":"06:06.335","Text":"The cost of plant we know is 10,673 billion simply divided by the 20 years life,"},{"Start":"06:06.335 ","End":"06:13.490","Text":"gives us a 0,534 billion expense as depreciation."},{"Start":"06:13.490 ","End":"06:19.190","Text":"Now, we establish a liability of 673 million"},{"Start":"06:19.190 ","End":"06:25.460","Text":"or 0,673 billion being the provision for the estimated future decommissioning costs."},{"Start":"06:25.460 ","End":"06:29.945","Text":"That attracts an interest expense on the income statement."},{"Start":"06:29.945 ","End":"06:33.630","Text":"In this case of 0,013 billion."},{"Start":"06:33.630 ","End":"06:37.205","Text":"That\u0027s computed by taking the amount of the liability,"},{"Start":"06:37.205 ","End":"06:41.405","Text":"which you recall is 0,673 billion,"},{"Start":"06:41.405 ","End":"06:47.190","Text":"and multiplying it by the discount rate of"},{"Start":"06:47.190 ","End":"06:55.610","Text":"2% to give us 0,013 billion as an interest expense on the income statement."},{"Start":"06:55.610 ","End":"06:58.880","Text":"You will know that the accounting entry for the depreciation"},{"Start":"06:58.880 ","End":"07:02.555","Text":"is a debit to the depreciation expense account,"},{"Start":"07:02.555 ","End":"07:08.390","Text":"and a credit to the accumulated depreciation as a contra asset."},{"Start":"07:08.390 ","End":"07:13.520","Text":"Accounting for the interest is somewhat beyond the scope of this module,"},{"Start":"07:13.520 ","End":"07:15.530","Text":"but as a brief introduction,"},{"Start":"07:15.530 ","End":"07:16.865","Text":"a brief explanation,"},{"Start":"07:16.865 ","End":"07:21.230","Text":"the debit for the interest must clearly go to an interest expense account."},{"Start":"07:21.230 ","End":"07:24.420","Text":"This interest is not paid in cash."},{"Start":"07:24.430 ","End":"07:29.540","Text":"You can think of it as a notional interest would be recorded on"},{"Start":"07:29.540 ","End":"07:34.085","Text":"that liability provision for the estimated decommissioning costs."},{"Start":"07:34.085 ","End":"07:39.275","Text":"The credit, in fact, goes to the provision account itself, the liability account."},{"Start":"07:39.275 ","End":"07:42.470","Text":"This concept is called unwinding the discount."},{"Start":"07:42.470 ","End":"07:50.405","Text":"The logic being is that from the time when this begins in Year 1,"},{"Start":"07:50.405 ","End":"07:54.195","Text":"all the way through to Year 20,"},{"Start":"07:54.195 ","End":"07:59.674","Text":"there\u0027ll be credits going to the provision account and also at Year 20,"},{"Start":"07:59.674 ","End":"08:03.560","Text":"the provision account will sit at"},{"Start":"08:03.560 ","End":"08:08.240","Text":"the 1 billion currency units of"},{"Start":"08:08.240 ","End":"08:14.190","Text":"obligation to decommission the plant at that point in time in the future."}],"ID":30302},{"Watched":false,"Name":"Exercise 1","Duration":"10m 33s","ChapterTopicVideoID":29390,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.200 ","End":"00:07.860","Text":"Hello and welcome to an exercise in the series on provisions brought to you by Proprep."},{"Start":"00:07.860 ","End":"00:10.424","Text":"This exercise deals with a warranty."},{"Start":"00:10.424 ","End":"00:14.205","Text":"MYappliances is a high-end appliances manufacturer"},{"Start":"00:14.205 ","End":"00:17.400","Text":"that sells online and via retail shops."},{"Start":"00:17.400 ","End":"00:20.730","Text":"Each appliance sold comes with a one-year warranty."},{"Start":"00:20.730 ","End":"00:24.495","Text":"The warranty provides that in case of a faulty appliance,"},{"Start":"00:24.495 ","End":"00:28.494","Text":"the customer will be provided with a brand new appliance."},{"Start":"00:28.494 ","End":"00:31.980","Text":"MYappliances sells on 30th of June,"},{"Start":"00:31.980 ","End":"00:34.850","Text":"20X1, 100 appliances."},{"Start":"00:34.850 ","End":"00:38.485","Text":"In relation to these 100 appliances sold,"},{"Start":"00:38.485 ","End":"00:44.075","Text":"it sets aside 10,000 currency units in provision for warranty expense."},{"Start":"00:44.075 ","End":"00:49.190","Text":"The provision is based on past experience with a fault rate is five percent."},{"Start":"00:49.190 ","End":"00:52.460","Text":"Now bear in mind that this five percent needs to"},{"Start":"00:52.460 ","End":"00:56.135","Text":"be applied to the 100 appliances that were sold."},{"Start":"00:56.135 ","End":"00:59.950","Text":"That then means that 100 times five percent"},{"Start":"00:59.950 ","End":"01:05.050","Text":"or five appliances are expected to become faulty."},{"Start":"01:05.050 ","End":"01:12.470","Text":"Also, that 10,000 currency unit provision relates to these five faulty appliances."},{"Start":"01:12.470 ","End":"01:17.030","Text":"Therefore, if you take 10,000 and divide it by the five appliances,"},{"Start":"01:17.030 ","End":"01:20.930","Text":"one sees that the company is expecting that"},{"Start":"01:20.930 ","End":"01:24.995","Text":"it\u0027s going to cost 2,000 currency units to replace each appliance."},{"Start":"01:24.995 ","End":"01:27.005","Text":"By the end of the financial year,"},{"Start":"01:27.005 ","End":"01:29.255","Text":"31 December 20X1,"},{"Start":"01:29.255 ","End":"01:32.165","Text":"three appliances have been replaced."},{"Start":"01:32.165 ","End":"01:33.845","Text":"On the same date,"},{"Start":"01:33.845 ","End":"01:36.260","Text":"the managers of MYappliances assess that there is"},{"Start":"01:36.260 ","End":"01:39.590","Text":"no need to revise the estimate of the five percent fault rate."},{"Start":"01:39.590 ","End":"01:45.265","Text":"In other words, they do believe that another two appliances will still become faulty."},{"Start":"01:45.265 ","End":"01:49.950","Text":"Required, focusing only on the June 20X1 sales,"},{"Start":"01:49.950 ","End":"01:56.105","Text":"1 calculate the ending balance of the warranty provision at 31 December 20X1,"},{"Start":"01:56.105 ","End":"02:04.425","Text":"two calculate the warranty expense to be recognized in the 20X1 income statement and 3,"},{"Start":"02:04.425 ","End":"02:10.520","Text":"what entry should be passed to record the supply of the three replacement appliances."},{"Start":"02:10.520 ","End":"02:13.715","Text":"Now let\u0027s do the solution to the warranty exercise."},{"Start":"02:13.715 ","End":"02:17.090","Text":"We\u0027re told that we expect five percent faults."},{"Start":"02:17.090 ","End":"02:20.285","Text":"We\u0027re also told that we sold 100 appliances,"},{"Start":"02:20.285 ","End":"02:24.079","Text":"and therefore this means that we\u0027re expecting there to be five faulty appliances."},{"Start":"02:24.079 ","End":"02:27.875","Text":"It\u0027s the 100 that we sold at five percent."},{"Start":"02:27.875 ","End":"02:33.420","Text":"Now we\u0027re also told that the original provision was 10,000 currency units,"},{"Start":"02:33.420 ","End":"02:36.875","Text":"and given that we now know that this was based on five faulty appliances,"},{"Start":"02:36.875 ","End":"02:41.905","Text":"it means that we\u0027re expecting each appliance to cost us 2,000 currency units."},{"Start":"02:41.905 ","End":"02:44.410","Text":"That\u0027s the 10,000 provision that was"},{"Start":"02:44.410 ","End":"02:48.830","Text":"raised divide by the five appliances that they based it on."},{"Start":"02:48.830 ","End":"02:51.650","Text":"Now, then we\u0027re also told that only three out of"},{"Start":"02:51.650 ","End":"02:53.390","Text":"the five appliances that we think are going to be"},{"Start":"02:53.390 ","End":"02:56.110","Text":"faulty were replaced by the end of the year."},{"Start":"02:56.110 ","End":"03:01.820","Text":"Then they also tell us that the estimate of five percent is actually a good estimate,"},{"Start":"03:01.820 ","End":"03:05.060","Text":"so that therefore means that they remain unchanged and"},{"Start":"03:05.060 ","End":"03:08.750","Text":"they view that five appliances are going to have to be replaced."},{"Start":"03:08.750 ","End":"03:15.625","Text":"Therefore, what that means is if we expect five appliances to be faulty,"},{"Start":"03:15.625 ","End":"03:18.370","Text":"and we\u0027ve only had three of them returned so far,"},{"Start":"03:18.370 ","End":"03:21.535","Text":"but we still very sure they\u0027re going to be five in total."},{"Start":"03:21.535 ","End":"03:27.580","Text":"Then it means that our obligation that we expect is still sitting at two so therefore,"},{"Start":"03:27.580 ","End":"03:30.140","Text":"our provision needs to reflect that."},{"Start":"03:30.140 ","End":"03:35.530","Text":"It means the provisions ending balance can be 4,000 currency units and this is"},{"Start":"03:35.530 ","End":"03:38.190","Text":"based on the cost of 2,000 per"},{"Start":"03:38.190 ","End":"03:41.410","Text":"appliance multiplied by the two remaining faulty appliances."},{"Start":"03:41.410 ","End":"03:46.440","Text":"Because remember, the provision is a liability and a liability is an obligation,"},{"Start":"03:46.440 ","End":"03:51.175","Text":"and we expect our obligation to be two remaining faulty appliances."},{"Start":"03:51.175 ","End":"03:52.980","Text":"Right now let\u0027s look at Part 2."},{"Start":"03:52.980 ","End":"03:57.230","Text":"The warranty expense is going to be 10,000 and that is"},{"Start":"03:57.230 ","End":"04:01.969","Text":"because we raise an expense when we raise the provision."},{"Start":"04:01.969 ","End":"04:06.925","Text":"We would adjust the expense if we adjusted our estimate of that provision."},{"Start":"04:06.925 ","End":"04:11.495","Text":"In this case, we were told that the five percent was accurate so therefore,"},{"Start":"04:11.495 ","End":"04:16.220","Text":"it\u0027s simply a case of that original 10,000 that was raised based on"},{"Start":"04:16.220 ","End":"04:21.380","Text":"a five percent fault rate is all that is going to affect our expense account."},{"Start":"04:21.380 ","End":"04:25.305","Text":"If we had decided that the five percent was"},{"Start":"04:25.305 ","End":"04:30.474","Text":"inadequate and it needed to be 6 percent perhaps,"},{"Start":"04:30.474 ","End":"04:34.075","Text":"well then there would have been an extra adjustment to the expense."},{"Start":"04:34.075 ","End":"04:37.130","Text":"For those of you who are interested in the actual entry,"},{"Start":"04:37.130 ","End":"04:39.860","Text":"what happens is you create the provision and"},{"Start":"04:39.860 ","End":"04:42.260","Text":"we\u0027re told it was 10,000 and at the same time,"},{"Start":"04:42.260 ","End":"04:46.715","Text":"what happens is you create that warranty expense."},{"Start":"04:46.715 ","End":"04:49.670","Text":"Bearing in mind that an expense gets bigger on"},{"Start":"04:49.670 ","End":"04:53.293","Text":"the debit side means you\u0027re debiting the expense,"},{"Start":"04:53.293 ","End":"04:54.800","Text":"and that a provision,"},{"Start":"04:54.800 ","End":"04:59.270","Text":"being a liability gets increased on the credit side,"},{"Start":"04:59.270 ","End":"05:01.625","Text":"we\u0027re obviously going to credit the provision."},{"Start":"05:01.625 ","End":"05:02.975","Text":"In Part 3,"},{"Start":"05:02.975 ","End":"05:05.810","Text":"the question here was,"},{"Start":"05:05.810 ","End":"05:10.490","Text":"what is the journal entry that we would process in order to account for"},{"Start":"05:10.490 ","End":"05:16.390","Text":"that actual delivery of the three replacement appliances."},{"Start":"05:16.390 ","End":"05:21.890","Text":"Here we\u0027re going to assume that we didn\u0027t have to buy in stock in order"},{"Start":"05:21.890 ","End":"05:28.040","Text":"to deliver these replacement appliances to our customers with faults."},{"Start":"05:28.040 ","End":"05:35.945","Text":"We\u0027re assuming we already had these replacement appliances in the stock,"},{"Start":"05:35.945 ","End":"05:39.040","Text":"so within the company\u0027s existing inventory."},{"Start":"05:39.040 ","End":"05:42.470","Text":"When the replacement appliances are delivered to the customers,"},{"Start":"05:42.470 ","End":"05:46.370","Text":"what\u0027s going to happen is our inventory drops by"},{"Start":"05:46.370 ","End":"05:48.920","Text":"those three appliances and the provision"},{"Start":"05:48.920 ","End":"05:53.720","Text":"decreases because we\u0027re settling part of that obligation."},{"Start":"05:53.720 ","End":"05:57.860","Text":"We\u0027re decreasing the inventory asset and we\u0027re decreasing"},{"Start":"05:57.860 ","End":"06:02.180","Text":"our provision and the amount that we\u0027re decreasing it by is 6,000 and"},{"Start":"06:02.180 ","End":"06:05.720","Text":"that\u0027s because there are three appliances and we already worked out that that\u0027s"},{"Start":"06:05.720 ","End":"06:10.580","Text":"2,000 currency units per appliance, so that\u0027s 6,000."},{"Start":"06:10.580 ","End":"06:13.460","Text":"For those interested in the debits and credits,"},{"Start":"06:13.460 ","End":"06:15.770","Text":"because an asset gets bigger on the debit side,"},{"Start":"06:15.770 ","End":"06:17.165","Text":"if you\u0027re wanting to decrease it,"},{"Start":"06:17.165 ","End":"06:18.800","Text":"you\u0027re going to credit it."},{"Start":"06:18.800 ","End":"06:24.005","Text":"Conversely, because provisions or liability get bigger on the credit side,"},{"Start":"06:24.005 ","End":"06:25.880","Text":"if you\u0027re wanting to decrease it,"},{"Start":"06:25.880 ","End":"06:27.520","Text":"you\u0027re going to debit it."},{"Start":"06:27.520 ","End":"06:31.190","Text":"Just for interest, where you too have been asked drop the table."},{"Start":"06:31.190 ","End":"06:32.645","Text":"This is what it would\u0027ve looked like."},{"Start":"06:32.645 ","End":"06:37.230","Text":"We would have in June 20X1 when we made the sale of a 100 units,"},{"Start":"06:37.230 ","End":"06:40.310","Text":"we would have created the provision at the same time."},{"Start":"06:40.310 ","End":"06:44.750","Text":"Now creating the provision and we were told it was 10,000 currency units"},{"Start":"06:44.750 ","End":"06:49.870","Text":"for five faulty appliances that we expected."},{"Start":"06:49.870 ","End":"06:53.180","Text":"You increase the provision and you put"},{"Start":"06:53.180 ","End":"06:56.000","Text":"through 10,000 as an expense in the income statement,"},{"Start":"06:56.000 ","End":"06:58.400","Text":"so your equity is decreasing."},{"Start":"06:58.400 ","End":"07:00.335","Text":"Your liability is increasing,"},{"Start":"07:00.335 ","End":"07:02.300","Text":"your equity is decreasing."},{"Start":"07:02.300 ","End":"07:04.625","Text":"If you looked at it in the accounting equation,"},{"Start":"07:04.625 ","End":"07:08.750","Text":"you can see the liability goes up by 10,000 and the equity is"},{"Start":"07:08.750 ","End":"07:12.830","Text":"going down by 10,000 because of the expense in the income statement."},{"Start":"07:12.830 ","End":"07:16.920","Text":"The left hand side is 0 and the right-hand side is 0."},{"Start":"07:20.330 ","End":"07:25.930","Text":"Then during that year with a 6 month period between June and December,"},{"Start":"07:25.930 ","End":"07:30.010","Text":"20X1, three appliances were replaced."},{"Start":"07:30.010 ","End":"07:33.550","Text":"The inventory would have gone down by 6,000."},{"Start":"07:33.550 ","End":"07:37.730","Text":"It\u0027s three appliances times 2,000."},{"Start":"07:37.910 ","End":"07:42.713","Text":"Then our provision for the warranty expense would go down by 6,000,"},{"Start":"07:42.713 ","End":"07:47.530","Text":"because we\u0027ve settled the obligation in terms of three faulty appliances."},{"Start":"07:47.530 ","End":"07:50.510","Text":"There are two still remaining."},{"Start":"07:51.410 ","End":"07:53.950","Text":"You look at the accounting equation,"},{"Start":"07:53.950 ","End":"07:57.505","Text":"you can see the assets go down by 6,000 on the left-hand side,"},{"Start":"07:57.505 ","End":"07:59.678","Text":"the liabilities go down by 6,000,"},{"Start":"07:59.678 ","End":"08:01.560","Text":"and the equity remains unchanged."},{"Start":"08:01.560 ","End":"08:03.823","Text":"You can see the accounting equation balances."},{"Start":"08:03.823 ","End":"08:05.630","Text":"The left-hand side is minus 6,000,"},{"Start":"08:05.630 ","End":"08:08.670","Text":"the right-hand side is minus 6,000."},{"Start":"08:08.930 ","End":"08:12.290","Text":"That leaves us the effect on the balances."},{"Start":"08:12.290 ","End":"08:15.410","Text":"Well, the inventory goes down by 6,000."},{"Start":"08:15.410 ","End":"08:17.810","Text":"Those are the three times 2,000."},{"Start":"08:17.810 ","End":"08:21.780","Text":"The provision reflects 4,000 and that represents"},{"Start":"08:21.780 ","End":"08:28.580","Text":"the two faulty appliances that we still feel will be returned and therefore,"},{"Start":"08:28.580 ","End":"08:35.065","Text":"the provision being our liability or obligation needs to reflect that expectation,"},{"Start":"08:35.065 ","End":"08:40.590","Text":"so that 4,000 is 2 appliances times 2,000 cost."},{"Start":"08:40.590 ","End":"08:44.750","Text":"The income statement is going to reflect the fact that"},{"Start":"08:44.750 ","End":"08:48.860","Text":"our expense in relation to the sale of"},{"Start":"08:48.860 ","End":"08:57.390","Text":"a 100 appliances is unexpected warranty outlay of 10,000,"},{"Start":"08:57.390 ","End":"09:00.305","Text":"so five times 2,000 cost to replace."},{"Start":"09:00.305 ","End":"09:02.149","Text":"As you can see that overall,"},{"Start":"09:02.149 ","End":"09:05.240","Text":"the impact in our balances also balances in"},{"Start":"09:05.240 ","End":"09:09.050","Text":"terms of the accounting equation so the assets go down by 6,000."},{"Start":"09:09.050 ","End":"09:12.590","Text":"The liabilities are up by 4,000,"},{"Start":"09:12.590 ","End":"09:18.080","Text":"representing the 2 that we still need to replace."},{"Start":"09:18.080 ","End":"09:22.430","Text":"The 6,000 on the left-hand side was the three that we\u0027ve already replaced and the"},{"Start":"09:22.430 ","End":"09:27.810","Text":"10,000 represents the total cost of the replacements."},{"Start":"09:35.000 ","End":"09:41.800","Text":"Remember that, that 10,000 must be expensed in the same year as the sales,"},{"Start":"09:41.800 ","End":"09:44.030","Text":"so we don\u0027t only expense what we do replace,"},{"Start":"09:44.030 ","End":"09:45.800","Text":"we expense what we think we\u0027re going to have to"},{"Start":"09:45.800 ","End":"09:49.590","Text":"replace in relation to the sales that we\u0027ve recognized."},{"Start":"09:54.140 ","End":"09:57.640","Text":"To recap, the 10,000 is the impact on"},{"Start":"09:57.640 ","End":"10:01.885","Text":"our equity based on our estimate of five faulty appliances,"},{"Start":"10:01.885 ","End":"10:04.715","Text":"and we still think this estimate is correct so we didn\u0027t change it."},{"Start":"10:04.715 ","End":"10:07.970","Text":"It stayed at the 10,000."},{"Start":"10:08.210 ","End":"10:11.940","Text":"The inventory, that\u0027s the impact on our assets of"},{"Start":"10:11.940 ","End":"10:16.590","Text":"the three faulty appliances that we\u0027ve already replaced,"},{"Start":"10:16.590 ","End":"10:19.150","Text":"and the 4,000 is the impact on"},{"Start":"10:19.150 ","End":"10:24.260","Text":"our liabilities of the 2 faulty appliances we still expect to replace."},{"Start":"10:26.760 ","End":"10:29.810","Text":"I hope that\u0027s helped."}],"ID":31005},{"Watched":false,"Name":"Exercise 2","Duration":"12m 36s","ChapterTopicVideoID":29391,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.000 ","End":"00:02.970","Text":"Hello and welcome to another exercise in this series"},{"Start":"00:02.970 ","End":"00:05.760","Text":"on provisions brought to you by Proprep."},{"Start":"00:05.760 ","End":"00:08.340","Text":"This exercise deals with a warranty and it"},{"Start":"00:08.340 ","End":"00:11.535","Text":"shows you the impact of the warranty over a 2 year period."},{"Start":"00:11.535 ","End":"00:13.260","Text":"The company, MyAppliances is"},{"Start":"00:13.260 ","End":"00:18.615","Text":"a high-end appliances manufacturer who sells online and via retail shops."},{"Start":"00:18.615 ","End":"00:21.899","Text":"Each appliance they sell comes with a 1 year warranty."},{"Start":"00:21.899 ","End":"00:24.900","Text":"This warranty provides that in case of a faulty appliance,"},{"Start":"00:24.900 ","End":"00:28.200","Text":"the customer will be given a brand new appliance."},{"Start":"00:28.200 ","End":"00:31.965","Text":"Now, MyAppliances sold on 30th of June 20X1,"},{"Start":"00:31.965 ","End":"00:34.080","Text":"100 of these appliances."},{"Start":"00:34.080 ","End":"00:37.275","Text":"In relation to these 100 appliances that were sold,"},{"Start":"00:37.275 ","End":"00:42.650","Text":"it set aside 10,000 currency units in terms of a provision for warranty expense."},{"Start":"00:42.650 ","End":"00:45.500","Text":"Now, this provision was based on an expectation that"},{"Start":"00:45.500 ","End":"00:49.385","Text":"5 appliances out of the 100 appliances would be faulty."},{"Start":"00:49.385 ","End":"00:52.385","Text":"If you have a look at that, what that\u0027s saying is that"},{"Start":"00:52.385 ","End":"00:57.585","Text":"each appliance would cost 2,000 currency units to replace."},{"Start":"00:57.585 ","End":"01:01.115","Text":"That\u0027s the 10,000 divide by the 5 appliances."},{"Start":"01:01.115 ","End":"01:04.475","Text":"Now by the end of the financial year 31 December 20X1,"},{"Start":"01:04.475 ","End":"01:06.740","Text":"3 appliances had been replaced."},{"Start":"01:06.740 ","End":"01:10.220","Text":"Remember they thought 5 appliances would be replaced in total out of"},{"Start":"01:10.220 ","End":"01:15.625","Text":"the 100 appliances that were sold and yet only 3 appliances have been replaced to date."},{"Start":"01:15.625 ","End":"01:19.420","Text":"Now, remember we\u0027re only 6 months into the 1 year warranty."},{"Start":"01:19.420 ","End":"01:22.820","Text":"Remember we sold them on 30th of June 20X1 and where"},{"Start":"01:22.820 ","End":"01:26.405","Text":"we\u0027re at right now is 31 December 20X1."},{"Start":"01:26.405 ","End":"01:29.300","Text":"There\u0027s another 6 months of the warranty still to come."},{"Start":"01:29.300 ","End":"01:31.970","Text":"The managers have decided that there\u0027s been no need to"},{"Start":"01:31.970 ","End":"01:34.685","Text":"revise the estimate of the 5 faulty appliances."},{"Start":"01:34.685 ","End":"01:37.505","Text":"In other words, what they\u0027re saying is at December 31,"},{"Start":"01:37.505 ","End":"01:41.455","Text":"we\u0027re still expecting only 2 further appliances to be replaced."},{"Start":"01:41.455 ","End":"01:44.685","Text":"At the end of 31 December 20X1,"},{"Start":"01:44.685 ","End":"01:47.160","Text":"the provision for warranty that, in other words,"},{"Start":"01:47.160 ","End":"01:50.280","Text":"the liability, the obligation is set at 4,000."},{"Start":"01:50.280 ","End":"01:54.730","Text":"In other words, those are the 2 remaining appliances that they are expecting to be faulty"},{"Start":"01:54.730 ","End":"02:00.270","Text":"multiplied by the expected cost to replace which is 2,000."},{"Start":"02:00.270 ","End":"02:03.820","Text":"Now by the end of 29th of June 20X2,"},{"Start":"02:03.820 ","End":"02:08.360","Text":"which is just about an entire year after the initial sales, in other words,"},{"Start":"02:08.360 ","End":"02:10.145","Text":"the warranty is not an end,"},{"Start":"02:10.145 ","End":"02:13.915","Text":"the company had replaced 3 more appliances."},{"Start":"02:13.915 ","End":"02:19.295","Text":"These are still relating to the sales on the 30th of June 20X1."},{"Start":"02:19.295 ","End":"02:24.005","Text":"Instead of there being 5 faulty appliances which was the original expectation,"},{"Start":"02:24.005 ","End":"02:30.780","Text":"note that we replaced 3 in the first 6 months and another 3 in the next 6 months,"},{"Start":"02:30.780 ","End":"02:32.865","Text":"so we\u0027ve replaced 6 so far."},{"Start":"02:32.865 ","End":"02:37.950","Text":"Remember, the warranty has expired now on the 30th of June 20X2."},{"Start":"02:37.950 ","End":"02:40.455","Text":"Then on 30th of June 20X2,"},{"Start":"02:40.455 ","End":"02:43.590","Text":"MyAppliances sold another set of appliances,"},{"Start":"02:43.590 ","End":"02:45.815","Text":"this time 120 appliances."},{"Start":"02:45.815 ","End":"02:48.965","Text":"In relation to these 120 appliances that were sold,"},{"Start":"02:48.965 ","End":"02:53.645","Text":"it set aside 16,000 in terms of the provision for warranty expense."},{"Start":"02:53.645 ","End":"02:57.710","Text":"Now, this provision is based on an expectation that 8 appliances will"},{"Start":"02:57.710 ","End":"03:02.590","Text":"be returned by the time that the warranty expires."},{"Start":"03:02.600 ","End":"03:06.260","Text":"By the end of the financial year 31 December 20X2,"},{"Start":"03:06.260 ","End":"03:12.175","Text":"the company had replaced 3 appliances with respect to those June 20X2 sales."},{"Start":"03:12.175 ","End":"03:15.385","Text":"On the same date 31 December 20X2,"},{"Start":"03:15.385 ","End":"03:18.365","Text":"the managers assess that there would be no need to revise the estimate"},{"Start":"03:18.365 ","End":"03:21.320","Text":"of 8 faulty appliances. What are they saying?"},{"Start":"03:21.320 ","End":"03:22.790","Text":"They\u0027re saying that we are still expecting"},{"Start":"03:22.790 ","End":"03:26.965","Text":"another 5 appliances to be faulty and to be returned to us."},{"Start":"03:26.965 ","End":"03:33.395","Text":"Required, calculate the ending balance of the warranty provision at 31 December 20X2."},{"Start":"03:33.395 ","End":"03:39.880","Text":"Then 2, calculate the warranty expense to be recognized in the 20X2 income statement."},{"Start":"03:39.880 ","End":"03:43.670","Text":"Let\u0027s do the solution to the warranty exercise,"},{"Start":"03:43.670 ","End":"03:47.125","Text":"the one where it shows the impact over 2 years."},{"Start":"03:47.125 ","End":"03:53.405","Text":"In Part 1, we\u0027re asked for the closing balance on our provision and in Part 2,"},{"Start":"03:53.405 ","End":"03:56.480","Text":"we\u0027re asked for the provision for"},{"Start":"03:56.480 ","End":"04:00.410","Text":"warranty expense or how much it\u0027s going to go through the income statement."},{"Start":"04:00.410 ","End":"04:02.945","Text":"That\u0027s for the 20X2 year."},{"Start":"04:02.945 ","End":"04:05.525","Text":"You can calculate this in any number of ways."},{"Start":"04:05.525 ","End":"04:07.970","Text":"I\u0027m going to use the table approach so you can see"},{"Start":"04:07.970 ","End":"04:11.470","Text":"the bigger picture and how it all fits together."},{"Start":"04:11.470 ","End":"04:17.045","Text":"We are given the opening balance on the 1st of January 20X2 in terms of the provision."},{"Start":"04:17.045 ","End":"04:19.730","Text":"We\u0027re told that that is 4,000 currency units."},{"Start":"04:19.730 ","End":"04:22.070","Text":"Now, just to recap, what does it relate to?"},{"Start":"04:22.070 ","End":"04:26.270","Text":"Those are the 2 appliances that the company still expects to"},{"Start":"04:26.270 ","End":"04:30.960","Text":"have to replace at 31 December 20X1."},{"Start":"04:30.960 ","End":"04:33.465","Text":"Remember 31 December 20X1,"},{"Start":"04:33.465 ","End":"04:36.650","Text":"we had thought that we\u0027re going to replace 5 appliances,"},{"Start":"04:36.650 ","End":"04:38.330","Text":"but we\u0027d already replaced 3,"},{"Start":"04:38.330 ","End":"04:41.730","Text":"so we expect to still have to replace another 2."},{"Start":"04:41.730 ","End":"04:46.040","Text":"That is where the closing balance at the end of 20X1 or opening balances,"},{"Start":"04:46.040 ","End":"04:48.305","Text":"you can see here in 20X2 came from."},{"Start":"04:48.305 ","End":"04:53.800","Text":"That\u0027s the 2 units that we still expect to have to replace that cost 2,000 each."},{"Start":"04:53.800 ","End":"05:00.710","Text":"Now, just remembered all times that the 20X1 warranty expenses 10,000 now,"},{"Start":"05:00.710 ","End":"05:07.450","Text":"just so that you understand that you must recognize the expense in full."},{"Start":"05:07.450 ","End":"05:10.565","Text":"In 20X1, we made certain sales."},{"Start":"05:10.565 ","End":"05:14.890","Text":"You estimate how many units are going to have to be replaced under that warranty."},{"Start":"05:14.890 ","End":"05:17.225","Text":"You recognize the entire expense,"},{"Start":"05:17.225 ","End":"05:22.085","Text":"even if you\u0027re not going to replace 1 of them in that 20X1 year."},{"Start":"05:22.085 ","End":"05:25.970","Text":"You have to recognize the full warranty expense that you"},{"Start":"05:25.970 ","End":"05:30.585","Text":"believe is going to result from that sale."},{"Start":"05:30.585 ","End":"05:34.625","Text":"We recognize the full warranty expense of 10,000 in 20X1,"},{"Start":"05:34.625 ","End":"05:38.510","Text":"even though we don\u0027t replace all of those 5 units,"},{"Start":"05:38.510 ","End":"05:41.495","Text":"5 times 2,000 currency units."},{"Start":"05:41.495 ","End":"05:43.425","Text":"This is where the 10,000 came from."},{"Start":"05:43.425 ","End":"05:47.630","Text":"It doesn\u0027t matter whether or not we replace those units in that year."},{"Start":"05:47.630 ","End":"05:52.490","Text":"You recognize that entire warranty expense of 10,000 in that year."},{"Start":"05:52.490 ","End":"05:55.150","Text":"Just bear that in mind as we go along."},{"Start":"05:55.150 ","End":"05:58.030","Text":"Then on the 29th of June 20X2,"},{"Start":"05:58.030 ","End":"06:02.420","Text":"we deliver the replacement of a further 3 appliances."},{"Start":"06:02.420 ","End":"06:03.995","Text":"Now that\u0027s very important,"},{"Start":"06:03.995 ","End":"06:07.820","Text":"but we\u0027ll come to the fact that there are 3 and not 2 in a moment."},{"Start":"06:07.820 ","End":"06:12.380","Text":"But just the fact that we deliver the replacements on"},{"Start":"06:12.380 ","End":"06:14.840","Text":"the 29th of June means that our inventory is going to go down"},{"Start":"06:14.840 ","End":"06:18.125","Text":"by those 3 units or 3 appliances."},{"Start":"06:18.125 ","End":"06:23.630","Text":"Each one of those appliances costs 2,000 so it\u0027s 3 multiply by 2,000,"},{"Start":"06:23.630 ","End":"06:26.540","Text":"and that\u0027s why inventory goes down by 6,000."},{"Start":"06:26.540 ","End":"06:29.390","Text":"But now, if you look at the provision for the warranty,"},{"Start":"06:29.390 ","End":"06:31.940","Text":"we only had an opening balance of 4,000"},{"Start":"06:31.940 ","End":"06:34.850","Text":"because we were expecting to only have to replace another 2."},{"Start":"06:34.850 ","End":"06:37.670","Text":"But now our estimate was obviously wrong."},{"Start":"06:37.670 ","End":"06:39.260","Text":"We\u0027re replacing another 3."},{"Start":"06:39.260 ","End":"06:42.980","Text":"That means that of the sales that we made in 20X1,"},{"Start":"06:42.980 ","End":"06:45.980","Text":"they\u0027re not only 5 that are going to be replaced, there are 6,"},{"Start":"06:45.980 ","End":"06:49.790","Text":"3 were replaced last year and you can see this year we\u0027re replacing 3."},{"Start":"06:49.790 ","End":"06:53.600","Text":"The fact is though that our opening balance of our provision was only 4,000,"},{"Start":"06:53.600 ","End":"06:55.610","Text":"so we can only take out 4,000."},{"Start":"06:55.610 ","End":"06:59.420","Text":"But now what do you do? You\u0027ve obviously got it wrong last year."},{"Start":"06:59.420 ","End":"07:02.555","Text":"You recognize an expense of 10,000 last year,"},{"Start":"07:02.555 ","End":"07:05.015","Text":"but that was based on 5 units."},{"Start":"07:05.015 ","End":"07:07.880","Text":"Yet you actually replace 6 units."},{"Start":"07:07.880 ","End":"07:12.169","Text":"6 times 2,000 should have been the 20X1 expense."},{"Start":"07:12.169 ","End":"07:16.790","Text":"But now you can\u0027t go back to 20X1 to change that expense under these circumstances,"},{"Start":"07:16.790 ","End":"07:19.820","Text":"you can\u0027t go back and change it. How do you fix it?"},{"Start":"07:19.820 ","End":"07:23.885","Text":"Will you just put through the extra expense that should have gone through in 20X1,"},{"Start":"07:23.885 ","End":"07:26.695","Text":"you\u0027re going to put it through in 20X2."},{"Start":"07:26.695 ","End":"07:30.710","Text":"Last year\u0027s expense, we recognize 10,000."},{"Start":"07:30.710 ","End":"07:33.110","Text":"It should have been 6 times 2,000,"},{"Start":"07:33.110 ","End":"07:35.095","Text":"which is 12,000."},{"Start":"07:35.095 ","End":"07:39.410","Text":"Last year\u0027s expense is underestimated by 2,000."},{"Start":"07:39.410 ","End":"07:43.790","Text":"We put that through as an extra expense in 20X2."},{"Start":"07:43.790 ","End":"07:50.425","Text":"It\u0027s an underestimate that\u0027s coming through as an expense in our 20X2 income statement."},{"Start":"07:50.425 ","End":"07:55.775","Text":"To recap, our inventory goes down by 6,000, that\u0027s 3 units."},{"Start":"07:55.775 ","End":"08:00.020","Text":"But our provision for warranty expense opening balance was 4,000,"},{"Start":"08:00.020 ","End":"08:02.405","Text":"so we can only take out 4,000."},{"Start":"08:02.405 ","End":"08:07.295","Text":"As a result, we expense another 2,000 through our income statement."},{"Start":"08:07.295 ","End":"08:08.915","Text":"For those who are interested,"},{"Start":"08:08.915 ","End":"08:10.205","Text":"the debits and credits,"},{"Start":"08:10.205 ","End":"08:13.333","Text":"our inventory is being credited to reduce it,"},{"Start":"08:13.333 ","End":"08:16.580","Text":"up revision is being debited to reduce it,"},{"Start":"08:16.580 ","End":"08:18.785","Text":"and our income statement is being debited."},{"Start":"08:18.785 ","End":"08:20.600","Text":"That\u0027s going to reduce equity."},{"Start":"08:20.600 ","End":"08:25.595","Text":"You\u0027ve got a credit of 6,000 and a debit of 4,000 and another debit of 2,000."},{"Start":"08:25.595 ","End":"08:28.945","Text":"You can see the journal entry balances."},{"Start":"08:28.945 ","End":"08:33.590","Text":"Remember 20X1, the warranty expense was 10,000 and we\u0027re putting through the"},{"Start":"08:33.590 ","End":"08:37.820","Text":"extra 2,000 expense that we should have put through ideally in 20X1,"},{"Start":"08:37.820 ","End":"08:40.805","Text":"we\u0027re going to put that through in this 20X2 year."},{"Start":"08:40.805 ","End":"08:44.495","Text":"Now we make another sale in June 20X2,"},{"Start":"08:44.495 ","End":"08:46.865","Text":"and this comes with a warranty as well."},{"Start":"08:46.865 ","End":"08:49.579","Text":"Here we are expecting 8 to be replaced,"},{"Start":"08:49.579 ","End":"08:52.940","Text":"so 8 units times 2,000 cost per unit,"},{"Start":"08:52.940 ","End":"08:56.960","Text":"we recognize that provision for warranty expense is 16,000,"},{"Start":"08:56.960 ","End":"08:59.570","Text":"and we recognize the expense,"},{"Start":"08:59.570 ","End":"09:02.315","Text":"the warranty expense of 16,000, and the income statement."},{"Start":"09:02.315 ","End":"09:05.660","Text":"We are crediting the provision with 16,000 and"},{"Start":"09:05.660 ","End":"09:09.390","Text":"we are debiting the income statement with 16,000."},{"Start":"09:09.390 ","End":"09:12.405","Text":"Then on 31st, December 20X2,"},{"Start":"09:12.405 ","End":"09:16.065","Text":"we have replaced 3 units by then."},{"Start":"09:16.065 ","End":"09:21.260","Text":"It\u0027s 3 units times 2,000 cost per unit means that our inventory has gone down by"},{"Start":"09:21.260 ","End":"09:26.440","Text":"6,000 and our provision for the warranty expense is reduced by 6,000."},{"Start":"09:26.440 ","End":"09:30.685","Text":"We expected 8 units to be replaced, 3 being replaced."},{"Start":"09:30.685 ","End":"09:33.620","Text":"If you read the question, you see that the managers decided that"},{"Start":"09:33.620 ","End":"09:37.880","Text":"the estimate of 8 replacements is still an accurate estimate."},{"Start":"09:37.880 ","End":"09:42.410","Text":"Therefore, that means that if you look at the provision for warranty expense column,"},{"Start":"09:42.410 ","End":"09:44.720","Text":"our closing balance will be 10,000."},{"Start":"09:44.720 ","End":"09:48.560","Text":"That\u0027s because the managers are still expecting a further 5 to be replaced,"},{"Start":"09:48.560 ","End":"09:51.695","Text":"5 times the cost of 2,000 per unit."},{"Start":"09:51.695 ","End":"09:54.895","Text":"Now, let\u0027s just look at that 12,000 under the inventory column."},{"Start":"09:54.895 ","End":"09:56.375","Text":"What does that represent?"},{"Start":"09:56.375 ","End":"09:58.945","Text":"That, by the way, is not a closing balance."},{"Start":"09:58.945 ","End":"10:00.980","Text":"The reason why that 12,000 is not"},{"Start":"10:00.980 ","End":"10:05.045","Text":"a closing balance is because we did not have the opening balance."},{"Start":"10:05.045 ","End":"10:07.405","Text":"You can see the opening balance block is empty."},{"Start":"10:07.405 ","End":"10:10.115","Text":"Our inventory closing balance at 12,000,"},{"Start":"10:10.115 ","End":"10:11.270","Text":"what does it represent?"},{"Start":"10:11.270 ","End":"10:15.320","Text":"Well, it\u0027s the 3 units that were replaced in respect to the 20X1 sales,"},{"Start":"10:15.320 ","End":"10:18.485","Text":"that\u0027s 3 times 2,000 per unit is 6,000,"},{"Start":"10:18.485 ","End":"10:22.970","Text":"plus the extra 3 replacements that occurred during the year."},{"Start":"10:22.970 ","End":"10:25.520","Text":"These were in respect to the 20X2 sales."},{"Start":"10:25.520 ","End":"10:29.495","Text":"That\u0027s another 3 times 2,000, which is 6,000."},{"Start":"10:29.495 ","End":"10:34.680","Text":"Our inventory goes down by 12,000 during the 20X2 calendar year."},{"Start":"10:34.680 ","End":"10:38.775","Text":"Our inventory goes down by 12,000 because of"},{"Start":"10:38.775 ","End":"10:44.375","Text":"the 6 units that were replaced during the 20X2 financial year."},{"Start":"10:44.375 ","End":"10:46.880","Text":"Then looking at the provision for the warranty expense,"},{"Start":"10:46.880 ","End":"10:48.200","Text":"what does that represent?"},{"Start":"10:48.200 ","End":"10:56.930","Text":"It\u0027s the 5 units that we still expect to replace in respect of the 20X2 sales."},{"Start":"10:56.930 ","End":"11:03.715","Text":"That\u0027s 5 times 2,000 currency units per unit and that gives us a 10,000."},{"Start":"11:03.715 ","End":"11:06.800","Text":"Remember the placements in respect to the 20X1 sales,"},{"Start":"11:06.800 ","End":"11:09.500","Text":"there are no more that we\u0027re expecting to replace that because"},{"Start":"11:09.500 ","End":"11:15.500","Text":"the 20X1 sales had a warranty which expired halfway through 20X2."},{"Start":"11:15.500 ","End":"11:17.120","Text":"At the end of 20X2,"},{"Start":"11:17.120 ","End":"11:18.830","Text":"31st, December 20X2,"},{"Start":"11:18.830 ","End":"11:24.325","Text":"we\u0027re no longer expecting any warranty units to be replaced."},{"Start":"11:24.325 ","End":"11:26.520","Text":"Then in terms of the income statement,"},{"Start":"11:26.520 ","End":"11:28.070","Text":"we\u0027ve got 18,000 sitting there."},{"Start":"11:28.070 ","End":"11:29.240","Text":"What does that relate to?"},{"Start":"11:29.240 ","End":"11:36.205","Text":"Well, it\u0027s the 1 extra unit that we had underestimated in terms of replacements."},{"Start":"11:36.205 ","End":"11:39.315","Text":"That was in respect to the 20X1 sales."},{"Start":"11:39.315 ","End":"11:43.070","Text":"That\u0027s 1 extra unit in respect of last year sales,"},{"Start":"11:43.070 ","End":"11:45.320","Text":"1 times 2,000 is 2,000."},{"Start":"11:45.320 ","End":"11:53.045","Text":"Then there\u0027s the 8 units that we\u0027re expecting to replace in respect of the 20X2 sales,"},{"Start":"11:53.045 ","End":"11:57.665","Text":"so 8 times 2,000 is 16,000."},{"Start":"11:57.665 ","End":"12:05.060","Text":"The 16,000 is the warranty expense in respect of the 20X2 sales plus we\u0027ve got"},{"Start":"12:05.060 ","End":"12:09.125","Text":"2,000 plus we have the 2,000"},{"Start":"12:09.125 ","End":"12:15.335","Text":"underestimate in respect of the warranty replacements for the 20X1 sales."},{"Start":"12:15.335 ","End":"12:18.270","Text":"That\u0027s where you get the 18,000 from."},{"Start":"12:18.530 ","End":"12:21.890","Text":"You could have calculated this in any number of ways,"},{"Start":"12:21.890 ","End":"12:25.310","Text":"but the provision for warranty expense closing balance is 10,000."},{"Start":"12:25.310 ","End":"12:27.095","Text":"That was the answer to Part 1."},{"Start":"12:27.095 ","End":"12:30.305","Text":"Then the income statement, that 18,000,"},{"Start":"12:30.305 ","End":"12:34.355","Text":"is the total warranty expense that we\u0027re going to recognize in 20X2."},{"Start":"12:34.355 ","End":"12:37.110","Text":"That was your answer to Part 2."}],"ID":31006},{"Watched":false,"Name":"Exercise 3","Duration":"5m 51s","ChapterTopicVideoID":29392,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.000 ","End":"00:06.225","Text":"Hello and welcome to another exercise on Provisions brought to you by Proprep."},{"Start":"00:06.225 ","End":"00:11.070","Text":"Almovodar is a producer of high pressure equipment used in the construction industry."},{"Start":"00:11.070 ","End":"00:14.275","Text":"The equipment itself comes with a 2-year warranty and"},{"Start":"00:14.275 ","End":"00:17.730","Text":"this warranty under the warranty Almovodar,"},{"Start":"00:17.730 ","End":"00:20.340","Text":"carries out repairs to the faulty equipment."},{"Start":"00:20.340 ","End":"00:23.040","Text":"The cost of the repairs is paid in cash."},{"Start":"00:23.040 ","End":"00:24.840","Text":"At the end of 20X1,"},{"Start":"00:24.840 ","End":"00:29.520","Text":"Almovodar reports a provision for warranty repairs of 11,500."},{"Start":"00:29.520 ","End":"00:31.500","Text":"At the end of 20X2,"},{"Start":"00:31.500 ","End":"00:35.380","Text":"this provision must reflect 12,300."},{"Start":"00:39.290 ","End":"00:44.200","Text":"The provision at the end of 20X1 did not require re-estimation."},{"Start":"00:44.200 ","End":"00:49.605","Text":"The repairs carried out during 20X2 cost 11,750."},{"Start":"00:49.605 ","End":"00:53.460","Text":"Required: Calculate the repairs expense Almovodar"},{"Start":"00:53.460 ","End":"00:57.780","Text":"reports in the year ending 31 December 20X2."},{"Start":"00:57.780 ","End":"01:01.595","Text":"Let\u0027s look at the solution to this warranty exercise."},{"Start":"01:01.595 ","End":"01:05.120","Text":"Before we get into the nuts and bolts of this exercise,"},{"Start":"01:05.120 ","End":"01:08.225","Text":"let\u0027s look at the structure of a provision account."},{"Start":"01:08.225 ","End":"01:11.885","Text":"You would start with your opening balance brought forward from the previous year."},{"Start":"01:11.885 ","End":"01:13.760","Text":"You may need to create a further provision,"},{"Start":"01:13.760 ","End":"01:15.200","Text":"which you would simply then add to"},{"Start":"01:15.200 ","End":"01:19.430","Text":"your provision account and thus create a further expense."},{"Start":"01:19.430 ","End":"01:22.490","Text":"You may also want to adjust your opening balance."},{"Start":"01:22.490 ","End":"01:25.745","Text":"Now that adjustment could be up or down."},{"Start":"01:25.745 ","End":"01:27.650","Text":"If it went up, you\u0027d be adding it."},{"Start":"01:27.650 ","End":"01:29.900","Text":"If it went down, you\u0027d be subtracting it so you"},{"Start":"01:29.900 ","End":"01:33.275","Text":"can see if it\u0027s down, it would be in brackets."},{"Start":"01:33.275 ","End":"01:36.650","Text":"The contra-entry 2 that would go through"},{"Start":"01:36.650 ","End":"01:40.980","Text":"your income statement as an income or an expense."},{"Start":"01:40.980 ","End":"01:43.835","Text":"If you were to adjust your opening balance down,"},{"Start":"01:43.835 ","End":"01:46.445","Text":"so reduce your opening balance liability,"},{"Start":"01:46.445 ","End":"01:49.722","Text":"the other side of the entry would be a credit to your income."},{"Start":"01:49.722 ","End":"01:52.700","Text":"If you were to increase your opening balance of the provision,"},{"Start":"01:52.700 ","End":"01:54.470","Text":"that would be increasing a liability,"},{"Start":"01:54.470 ","End":"01:56.675","Text":"which means you\u0027d be crediting the provision"},{"Start":"01:56.675 ","End":"01:59.920","Text":"and debiting an expense in your income statement."},{"Start":"01:59.920 ","End":"02:02.480","Text":"To recap, you have an opening balance,"},{"Start":"02:02.480 ","End":"02:07.310","Text":"then you would create a further provision or adjust that provision,"},{"Start":"02:07.310 ","End":"02:10.625","Text":"then decreasing the provision."},{"Start":"02:10.625 ","End":"02:13.310","Text":"In this case, decreasing the provision,"},{"Start":"02:13.310 ","End":"02:15.661","Text":"I\u0027m not talking about an adjustment to the provision,"},{"Start":"02:15.661 ","End":"02:18.655","Text":"this is where you actually settling your obligations."},{"Start":"02:18.655 ","End":"02:22.040","Text":"In this example, we\u0027ve got a provision for"},{"Start":"02:22.040 ","End":"02:26.780","Text":"a warranty expense where we\u0027re going to repair the item."},{"Start":"02:26.780 ","End":"02:29.630","Text":"As and when you do the repairs,"},{"Start":"02:29.630 ","End":"02:32.270","Text":"you\u0027re going to reduce the provision because"},{"Start":"02:32.270 ","End":"02:35.245","Text":"you are settling your obligation to your customers."},{"Start":"02:35.245 ","End":"02:39.425","Text":"You would reduce the provision and then you would reduce your asset."},{"Start":"02:39.425 ","End":"02:42.340","Text":"If you were doing repairs and paying for them in cash,"},{"Start":"02:42.340 ","End":"02:45.185","Text":"your cash would be the asset that is reduced."},{"Start":"02:45.185 ","End":"02:48.980","Text":"If you are replacing the item that maybe is a little faulty,"},{"Start":"02:48.980 ","End":"02:51.500","Text":"then you would reduce your inventory and"},{"Start":"02:51.500 ","End":"02:55.594","Text":"the final item in that provision column would then be your closing balance."},{"Start":"02:55.594 ","End":"02:57.335","Text":"Let\u0027s put figures to this."},{"Start":"02:57.335 ","End":"03:00.656","Text":"The opening balance was given to us and that was 11,500,"},{"Start":"03:00.656 ","End":"03:02.300","Text":"so you pop that into the column."},{"Start":"03:02.300 ","End":"03:03.965","Text":"The question actually asked us,"},{"Start":"03:03.965 ","End":"03:07.320","Text":"how much did the provision affect our income statement in 20X2?"},{"Start":"03:07.320 ","End":"03:10.025","Text":"This line is the unknown."},{"Start":"03:10.025 ","End":"03:12.650","Text":"We don\u0027t know if we created a further provision."},{"Start":"03:12.650 ","End":"03:15.470","Text":"We don\u0027t know if we adjusted our opening balance."},{"Start":"03:15.470 ","End":"03:17.440","Text":"That\u0027s what we\u0027re going to search for."},{"Start":"03:17.440 ","End":"03:21.620","Text":"Then we do know that we did do repairs during the year."},{"Start":"03:21.620 ","End":"03:22.850","Text":"If we do repairs during the year,"},{"Start":"03:22.850 ","End":"03:27.110","Text":"it means we\u0027re settling our obligations to our customers in terms of the warranty."},{"Start":"03:27.110 ","End":"03:30.905","Text":"Therefore, we have to reduce the provision by that amount."},{"Start":"03:30.905 ","End":"03:34.070","Text":"That amount was 11,750,"},{"Start":"03:34.070 ","End":"03:35.960","Text":"which we were told was paid for in cash,"},{"Start":"03:35.960 ","End":"03:37.970","Text":"so we know our asset column,"},{"Start":"03:37.970 ","End":"03:41.960","Text":"cash specifically, was reduced by 11,750,"},{"Start":"03:41.960 ","End":"03:46.240","Text":"and then we\u0027re told that our closing balance of the provision was 12,300."},{"Start":"03:46.240 ","End":"03:51.080","Text":"There are the 4 items that make up our provision for warranty liability."},{"Start":"03:51.080 ","End":"03:53.700","Text":"Let\u0027s put that into a formula."},{"Start":"03:53.900 ","End":"03:56.120","Text":"If you look under the table,"},{"Start":"03:56.120 ","End":"03:57.950","Text":"you see the formula I\u0027m writing out;"},{"Start":"03:57.950 ","End":"04:00.845","Text":"11,500 is opening balance."},{"Start":"04:00.845 ","End":"04:03.425","Text":"To that we add the unknown X,"},{"Start":"04:03.425 ","End":"04:04.985","Text":"that\u0027s the 1 we\u0027re looking for."},{"Start":"04:04.985 ","End":"04:07.490","Text":"Then, we subtract 11,750,"},{"Start":"04:07.490 ","End":"04:10.505","Text":"which is the cash repairs that we have done and thus,"},{"Start":"04:10.505 ","End":"04:17.750","Text":"it\u0027s reduced our provision by that amount and that should give us our closing balance."},{"Start":"04:17.750 ","End":"04:20.575","Text":"Now all we have to do is solve for X."},{"Start":"04:20.575 ","End":"04:23.480","Text":"To solve for X, we need to get the X on its own,"},{"Start":"04:23.480 ","End":"04:26.045","Text":"on the left-hand side of that red equals sign,"},{"Start":"04:26.045 ","End":"04:27.380","Text":"which means that we\u0027ve got to get rid of"},{"Start":"04:27.380 ","End":"04:29.570","Text":"the numbers on the left-hand side of the equals sign,"},{"Start":"04:29.570 ","End":"04:31.610","Text":"get it over to the right-hand side."},{"Start":"04:31.610 ","End":"04:34.315","Text":"Remember that when you\u0027re doing algebra,"},{"Start":"04:34.315 ","End":"04:40.090","Text":"when an amount goes across to the other side, its sign changes."},{"Start":"04:40.090 ","End":"04:43.395","Text":"We need to solve for the X and therefore,"},{"Start":"04:43.395 ","End":"04:45.890","Text":"we need to get the 2 amounts,"},{"Start":"04:45.890 ","End":"04:47.780","Text":"which are on the left-hand side of that equals sign,"},{"Start":"04:47.780 ","End":"04:51.410","Text":"we need to get them over to the right-hand side so that the X is on its own."},{"Start":"04:51.410 ","End":"04:54.680","Text":"Now remember when you take those 2 amounts across to the other side,"},{"Start":"04:54.680 ","End":"04:58.410","Text":"the signs change. Let\u0027s see; what do I mean?"},{"Start":"04:58.410 ","End":"05:03.575","Text":"We\u0027ve got X on the left-hand side and we\u0027ve got the 12,300 on the right-hand side."},{"Start":"05:03.575 ","End":"05:05.720","Text":"Now we\u0027re going to take the 11,500,"},{"Start":"05:05.720 ","End":"05:07.105","Text":"which was on the left-hand side,"},{"Start":"05:07.105 ","End":"05:09.890","Text":"we\u0027re going to push it through to the right-hand side and as you can see,"},{"Start":"05:09.890 ","End":"05:12.360","Text":"as it goes over that equals sign,"},{"Start":"05:13.280 ","End":"05:16.635","Text":"it becomes a negative 11,500."},{"Start":"05:16.635 ","End":"05:19.070","Text":"Then let\u0027s look at 11,750,"},{"Start":"05:19.070 ","End":"05:22.850","Text":"which was a negative on the left-hand side of the equal sign."},{"Start":"05:22.850 ","End":"05:24.950","Text":"It becomes a positive on the right-hand side of"},{"Start":"05:24.950 ","End":"05:27.600","Text":"the equals sign and then you simply solve."},{"Start":"05:27.600 ","End":"05:30.390","Text":"That\u0027s 12,550."},{"Start":"05:30.390 ","End":"05:32.990","Text":"If you have a look at the table,"},{"Start":"05:32.990 ","End":"05:36.770","Text":"then I\u0027ve popped the 12,550 into the provision column."},{"Start":"05:36.770 ","End":"05:40.220","Text":"We\u0027ve increased our provision by that 12,550,"},{"Start":"05:40.220 ","End":"05:45.740","Text":"which means that we\u0027ve got an expense of 12,550 that went through the income statement."},{"Start":"05:45.740 ","End":"05:51.300","Text":"12,550 expense is the answer to this example."}],"ID":31007},{"Watched":false,"Name":"Exercise 4","Duration":"3m 4s","ChapterTopicVideoID":29393,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.080 ","End":"00:05.430","Text":"Hello and welcome to an exercise on Provisions brought to you by Proprep."},{"Start":"00:05.430 ","End":"00:08.620","Text":"This exercise deals with a legal dispute."},{"Start":"00:08.620 ","End":"00:15.030","Text":"AI healthcare or AIHC is a private provider of health services."},{"Start":"00:15.030 ","End":"00:19.485","Text":"It is currently being sued for medical negligence by a former patient."},{"Start":"00:19.485 ","End":"00:23.460","Text":"The lawyers of AIHC advise it to go to court."},{"Start":"00:23.460 ","End":"00:28.845","Text":"The lawyers assessed there to be a 25 percent chance that AIHC will need to pay"},{"Start":"00:28.845 ","End":"00:35.460","Text":"200,000 and there is a 20 percent chance it will need to pay 300,000."},{"Start":"00:35.460 ","End":"00:41.250","Text":"However, they believed there is a 55 percent chance the court may just dismiss the claim."},{"Start":"00:41.250 ","End":"00:44.570","Text":"As you can see there, we\u0027ve got a 25 percent chance,"},{"Start":"00:44.570 ","End":"00:45.650","Text":"a 20 percent chance,"},{"Start":"00:45.650 ","End":"00:47.000","Text":"and a 55 percent chance,"},{"Start":"00:47.000 ","End":"00:49.795","Text":"which adds up to 100 percent."},{"Start":"00:49.795 ","End":"00:53.295","Text":"Required. Calculate the amount of the provision"},{"Start":"00:53.295 ","End":"00:57.970","Text":"AIHC needs to set with respect to this legal suit."},{"Start":"00:57.970 ","End":"01:02.765","Text":"Let\u0027s look at the solution to the legal dispute example."},{"Start":"01:02.765 ","End":"01:05.660","Text":"Now, when recognizing and measuring a provision,"},{"Start":"01:05.660 ","End":"01:08.195","Text":"there are actually 2 approaches we could use."},{"Start":"01:08.195 ","End":"01:11.240","Text":"We\u0027ve got the probability-weighted outcome approach"},{"Start":"01:11.240 ","End":"01:14.135","Text":"and we\u0027ve also got a more-likely-than-not approach."},{"Start":"01:14.135 ","End":"01:18.545","Text":"Now in this scenario using the probability-weighted outcome approach,"},{"Start":"01:18.545 ","End":"01:24.185","Text":"we would report a provision that was measured at 110,000 currency units."},{"Start":"01:24.185 ","End":"01:26.600","Text":"That\u0027s calculated based on"},{"Start":"01:26.600 ","End":"01:29.210","Text":"the fact that we were given advice from the lawyers that there was"},{"Start":"01:29.210 ","End":"01:31.310","Text":"a 25 percent chance we\u0027d have to pay"},{"Start":"01:31.310 ","End":"01:35.840","Text":"200,000 currency units so we multiply those 2 against each other."},{"Start":"01:35.840 ","End":"01:39.410","Text":"Then we were told that we had a 20 percent chance that we\u0027d have to pay"},{"Start":"01:39.410 ","End":"01:43.280","Text":"300,000 so you multiply 20 percent by 300,000."},{"Start":"01:43.280 ","End":"01:46.520","Text":"Then the final 55 percent"},{"Start":"01:46.520 ","End":"01:50.240","Text":"was that we have a chance that we won\u0027t have to pay anything at all."},{"Start":"01:50.240 ","End":"01:53.600","Text":"That gives us the 110,000."},{"Start":"01:53.600 ","End":"01:55.520","Text":"We also have, as I say,"},{"Start":"01:55.520 ","End":"01:57.425","Text":"the more likely than not approach,"},{"Start":"01:57.425 ","End":"02:01.370","Text":"and there we would not recognize a liability at all."},{"Start":"02:01.370 ","End":"02:05.825","Text":"The reason for that is that using the more-likely-than-not approach,"},{"Start":"02:05.825 ","End":"02:10.130","Text":"AIHC wouldn\u0027t recognize a liability at all and the reason for that is"},{"Start":"02:10.130 ","End":"02:14.963","Text":"because we were told that we had a 55 percent chance of not paying anything at all."},{"Start":"02:14.963 ","End":"02:21.035","Text":"55 percent scenario is obviously the more-likely-than-not scenario."},{"Start":"02:21.035 ","End":"02:25.790","Text":"However, if the company did not recognize a liability, in other words,"},{"Start":"02:25.790 ","End":"02:28.190","Text":"it did choose to recognize and measure"},{"Start":"02:28.190 ","End":"02:30.905","Text":"its liability based on the more likely than not approach,"},{"Start":"02:30.905 ","End":"02:35.015","Text":"it would still have to disclose information about"},{"Start":"02:35.015 ","End":"02:40.160","Text":"this situation that it is in because a payment is still possible,"},{"Start":"02:40.160 ","End":"02:45.455","Text":"so the contingent liability in this case would be a possible liability."},{"Start":"02:45.455 ","End":"02:47.885","Text":"We\u0027ve got 2 different answers here."},{"Start":"02:47.885 ","End":"02:50.440","Text":"You would probably have to discuss both."},{"Start":"02:50.440 ","End":"02:53.240","Text":"It\u0027s a probability weighted outcome approach."},{"Start":"02:53.240 ","End":"02:55.610","Text":"It would give us a 110,000 provision."},{"Start":"02:55.610 ","End":"02:59.450","Text":"The more-likely-than-not approach would not give us a provision at all,"},{"Start":"02:59.450 ","End":"03:04.410","Text":"but it would lead to the disclosure of a contingent liability instead."}],"ID":31008},{"Watched":false,"Name":"Exercise 5","Duration":"5m 6s","ChapterTopicVideoID":29394,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.000 ","End":"00:06.360","Text":"Hello. Welcome to an exercise in the series on provisions brought to you by Proprep."},{"Start":"00:06.360 ","End":"00:09.915","Text":"This exercise deals with a legal dispute."},{"Start":"00:09.915 ","End":"00:12.630","Text":"In 20X1, Boog,"},{"Start":"00:12.630 ","End":"00:14.895","Text":"a manufacturer of domestic heating boilers,"},{"Start":"00:14.895 ","End":"00:19.785","Text":"is sued in connection to a fire that demolished a residential property."},{"Start":"00:19.785 ","End":"00:24.600","Text":"The managers of Boog believe there is a 70 percent chance they will settle at"},{"Start":"00:24.600 ","End":"00:29.310","Text":"500,000 and a 30 percent chance they will settle at 600,000."},{"Start":"00:29.310 ","End":"00:33.000","Text":"Notice the 2 percentages add up to 100 percent."},{"Start":"00:33.000 ","End":"00:37.870","Text":"They decide to recognize a provision based on the most likely outcome."},{"Start":"00:37.870 ","End":"00:41.030","Text":"In 20X2, Boog reaches a settlement with"},{"Start":"00:41.030 ","End":"00:45.280","Text":"the plaintiff according to which it will pay 550,000."},{"Start":"00:45.280 ","End":"00:47.925","Text":"Required: 1,"},{"Start":"00:47.925 ","End":"00:53.063","Text":"determine the amount of their provision at the end of 20X1,"},{"Start":"00:53.063 ","End":"01:01.340","Text":"and 2, what is the effect of this dispute on the income statement in 20X1 and in 20X2."},{"Start":"01:01.340 ","End":"01:05.945","Text":"Let\u0027s look at the solution to the legal dispute exercise."},{"Start":"01:05.945 ","End":"01:12.597","Text":"In Part 1, we\u0027re asked to calculate the provisions closing balance at the end of 20X1."},{"Start":"01:12.597 ","End":"01:16.925","Text":"In this regard, the managers chose to use the most likely outcome method."},{"Start":"01:16.925 ","End":"01:21.115","Text":"The most likely outcome is that we\u0027d have to pay 500,000,"},{"Start":"01:21.115 ","End":"01:24.500","Text":"and that was based on the fact that there would be a 70 percent chance that"},{"Start":"01:24.500 ","End":"01:29.300","Text":"the payment would be 500,000 and 30 percent chance the payment would be 600,000."},{"Start":"01:29.300 ","End":"01:33.065","Text":"Therefore, there\u0027s more likelihood of it being 500,000."},{"Start":"01:33.065 ","End":"01:36.200","Text":"Therefore, based on the most likely outcome method,"},{"Start":"01:36.200 ","End":"01:38.950","Text":"we raised a provision of 500,000."},{"Start":"01:38.950 ","End":"01:43.370","Text":"To do that, you created the provision because a provision is a liability,"},{"Start":"01:43.370 ","End":"01:47.462","Text":"and you debit the expense with the 500,000."},{"Start":"01:47.462 ","End":"01:51.845","Text":"Given that there are no other adjustments to the provision that are made in 20X1,"},{"Start":"01:51.845 ","End":"01:57.010","Text":"the balance of the provision at the end of 20X1 is 500,000."},{"Start":"01:57.010 ","End":"02:00.290","Text":"In Part 2, we were asked to calculate the impact on"},{"Start":"02:00.290 ","End":"02:04.675","Text":"the income statement in 20X1 and in 20X2."},{"Start":"02:04.675 ","End":"02:08.885","Text":"In 20X1, we\u0027re going to recognize an expense of 500,000."},{"Start":"02:08.885 ","End":"02:11.600","Text":"This is because of that creation of that provision that we"},{"Start":"02:11.600 ","End":"02:14.386","Text":"spoke about a moment ago in Part 1 above."},{"Start":"02:14.386 ","End":"02:17.060","Text":"We had to credit the provision with the 500,000"},{"Start":"02:17.060 ","End":"02:20.255","Text":"being the most likely amount that we\u0027d have to pay."},{"Start":"02:20.255 ","End":"02:22.070","Text":"When you create that provision,"},{"Start":"02:22.070 ","End":"02:24.979","Text":"the other side of the entry is to debit the expense."},{"Start":"02:24.979 ","End":"02:29.180","Text":"Then in 20X2, we\u0027re going to recognize a further expense of 50,000."},{"Start":"02:29.180 ","End":"02:30.605","Text":"Now where do I get that from?"},{"Start":"02:30.605 ","End":"02:34.580","Text":"That is because we are told that we actually ended up paying 550,000."},{"Start":"02:34.580 ","End":"02:40.925","Text":"So our estimate of our provision in 20X1 was slightly under what it ought to have been."},{"Start":"02:40.925 ","End":"02:43.865","Text":"In 20X1, we thought we\u0027d have to pay 500,000."},{"Start":"02:43.865 ","End":"02:47.555","Text":"But in 20X2, we actually ended up paying 550,000."},{"Start":"02:47.555 ","End":"02:50.210","Text":"So we compare what we actually paid with what was"},{"Start":"02:50.210 ","End":"02:53.084","Text":"provided to the provision that we put through,"},{"Start":"02:53.084 ","End":"02:54.290","Text":"and that was 500,000."},{"Start":"02:54.290 ","End":"02:58.670","Text":"We see we\u0027ve got an underestimated provision in 20X1 of 50,000."},{"Start":"02:58.670 ","End":"03:02.240","Text":"That means that not only was the provision under estimated in 20X1,"},{"Start":"03:02.240 ","End":"03:05.480","Text":"but the expense was underestimated then by 50,000."},{"Start":"03:05.480 ","End":"03:06.680","Text":"So in 20X1,"},{"Start":"03:06.680 ","End":"03:08.990","Text":"the general entry ideally should have been"},{"Start":"03:08.990 ","End":"03:12.260","Text":"debit expense and credit provision with 550,000."},{"Start":"03:12.260 ","End":"03:15.710","Text":"To fix up the expense side of things,"},{"Start":"03:15.710 ","End":"03:17.210","Text":"we will have to, in 20X2,"},{"Start":"03:17.210 ","End":"03:19.773","Text":"put through an extra 50,000."},{"Start":"03:19.773 ","End":"03:21.245","Text":"So in 20X1,"},{"Start":"03:21.245 ","End":"03:24.545","Text":"the answer is the expense will be 500,000, and in 20X2,"},{"Start":"03:24.545 ","End":"03:26.960","Text":"we\u0027re going to put through another expense of 50,000 so that,"},{"Start":"03:26.960 ","End":"03:28.130","Text":"over the 2 years,"},{"Start":"03:28.130 ","End":"03:29.915","Text":"we\u0027ve expensed the right amount."},{"Start":"03:29.915 ","End":"03:31.865","Text":"For those of you who are interested,"},{"Start":"03:31.865 ","End":"03:33.000","Text":"here are the general entries."},{"Start":"03:33.000 ","End":"03:39.100","Text":"In 20X1, we debit an expense of 500,000 and credit in the provision with 500,000."},{"Start":"03:39.100 ","End":"03:43.775","Text":"Then in 20X2, because we\u0027re actually paying 550,000,"},{"Start":"03:43.775 ","End":"03:47.240","Text":"we\u0027re having to put through an extra 50,000. So how does this work?"},{"Start":"03:47.240 ","End":"03:49.640","Text":"I\u0027m going to credit our cash with 550,000."},{"Start":"03:49.640 ","End":"03:52.490","Text":"A credit to cash is a reduction in the cash."},{"Start":"03:52.490 ","End":"03:54.125","Text":"Remember, cash is an asset,"},{"Start":"03:54.125 ","End":"03:56.270","Text":"and assets get bigger on the debit side."},{"Start":"03:56.270 ","End":"03:58.820","Text":"So to reduce your asset,"},{"Start":"03:58.820 ","End":"04:01.880","Text":"your cash, you\u0027re going to credit the cash."},{"Start":"04:01.880 ","End":"04:04.234","Text":"Then we\u0027re going to debit the provision."},{"Start":"04:04.234 ","End":"04:06.975","Text":"We\u0027re debiting the provision with 500,000,"},{"Start":"04:06.975 ","End":"04:08.689","Text":"and that is to reduce the provision."},{"Start":"04:08.689 ","End":"04:10.580","Text":"Remember, provision is a liability,"},{"Start":"04:10.580 ","End":"04:13.370","Text":"and liabilities get bigger on the credit side."},{"Start":"04:13.370 ","End":"04:17.190","Text":"You\u0027ll see we can only debit the provision with 500,000,"},{"Start":"04:17.190 ","End":"04:19.230","Text":"not 550,000, and the reason is,"},{"Start":"04:19.230 ","End":"04:22.475","Text":"if you look at the 20X1 general entry on the left-hand side,"},{"Start":"04:22.475 ","End":"04:25.833","Text":"you can see that the provision had been credited with 500,000."},{"Start":"04:25.833 ","End":"04:28.685","Text":"So there was only a 500,000 in the provision account,"},{"Start":"04:28.685 ","End":"04:31.569","Text":"and now we\u0027re debiting it to get rid of that provision,"},{"Start":"04:31.569 ","End":"04:35.073","Text":"so bringing the provision to 0 because we\u0027ve settled our obligation."},{"Start":"04:35.073 ","End":"04:41.570","Text":"We don\u0027t want to provision anymore because we\u0027ve settled the debt."},{"Start":"04:41.570 ","End":"04:43.310","Text":"We\u0027ve got a credit to cash of 550,"},{"Start":"04:43.310 ","End":"04:47.210","Text":"and a debit of provision of 500 means we\u0027re short of another 50,"},{"Start":"04:47.210 ","End":"04:49.030","Text":"and that goes to the expense."},{"Start":"04:49.030 ","End":"04:50.750","Text":"So you can see that in 20X1,"},{"Start":"04:50.750 ","End":"04:52.540","Text":"we debited the expense with 500,"},{"Start":"04:52.540 ","End":"04:55.505","Text":"and in 20X2, we debited the expense with 50."},{"Start":"04:55.505 ","End":"05:02.615","Text":"The total expense of 500 plus the 50 of 550,000 equals what we ultimately land up paying,"},{"Start":"05:02.615 ","End":"05:07.170","Text":"which was the credit to cash of 550,000."}],"ID":31009},{"Watched":false,"Name":"Exercise 6","Duration":"10m 28s","ChapterTopicVideoID":29395,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:01.100 ","End":"00:05.850","Text":"This exercise deals with an environmental cleanup."},{"Start":"00:05.850 ","End":"00:08.460","Text":"Vodkaphone invests in a network of"},{"Start":"00:08.460 ","End":"00:13.360","Text":"communication masts that provides coverage for its mobile phone customers."},{"Start":"00:13.430 ","End":"00:20.249","Text":"Each mast costs 1,000,000 currency units to construct and bring to operational capacity."},{"Start":"00:20.249 ","End":"00:24.180","Text":"Each mast has an expected life of 25 years,"},{"Start":"00:24.180 ","End":"00:29.055","Text":"by the end of which Vodkaphone will have to restore the land to its original condition."},{"Start":"00:29.055 ","End":"00:34.500","Text":"Vodkaphone expects the land restoration cost to be 50,000 currency units per mast."},{"Start":"00:34.500 ","End":"00:38.490","Text":"Notice that there are 2 parts to the cost of these masts."},{"Start":"00:38.490 ","End":"00:43.880","Text":"One part involves the actual physical construction cost of 1,000,000,"},{"Start":"00:43.880 ","End":"00:46.025","Text":"and the other is a future cost,"},{"Start":"00:46.025 ","End":"00:49.285","Text":"which involves the land restoration of 50,000."},{"Start":"00:49.285 ","End":"00:52.170","Text":"The salvage value of each mast is 0."},{"Start":"00:52.170 ","End":"00:55.170","Text":"Assume that Vodkaphone constructs 10 new masts in"},{"Start":"00:55.170 ","End":"01:00.595","Text":"20X1 and that these become operational from 1st of January 20X2."},{"Start":"01:00.595 ","End":"01:03.540","Text":"These 3 pieces of information, i.e.,"},{"Start":"01:03.540 ","End":"01:05.855","Text":"that the expected life is 25 years,"},{"Start":"01:05.855 ","End":"01:08.420","Text":"the salvage value is expected to be 0,"},{"Start":"01:08.420 ","End":"01:10.850","Text":"and that the mast will become operational from"},{"Start":"01:10.850 ","End":"01:16.985","Text":"the 1st of January 20X2 will all be necessary in the depreciation calculation."},{"Start":"01:16.985 ","End":"01:21.400","Text":"Vodkaphone uses 2 percent as the relevant discount rate."},{"Start":"01:21.400 ","End":"01:27.980","Text":"This discount rate is useful on the perspective that we have a future cost of 50,000,"},{"Start":"01:27.980 ","End":"01:31.340","Text":"being the land restoration cost of 50,000 per mast,"},{"Start":"01:31.340 ","End":"01:37.570","Text":"which will be incurred 25 years later from the time it first gets brought into operation."},{"Start":"01:37.570 ","End":"01:43.205","Text":"Calculate the provision for environmental restoration costs on 31 December 20X1."},{"Start":"01:43.205 ","End":"01:49.820","Text":"2, calculate the carrying value of the 10 masts as at 31 December 20X1."},{"Start":"01:49.820 ","End":"01:56.180","Text":"3, calculate the annual depreciation expense related to the 10 masts."},{"Start":"01:56.180 ","End":"02:02.280","Text":"4, calculate the balance of the provision on 31 December 20X2."},{"Start":"02:02.290 ","End":"02:07.445","Text":"Let\u0027s look at the solution to the environmental cleanup exercise."},{"Start":"02:07.445 ","End":"02:10.460","Text":"Part 1 asks us to calculate the provision for"},{"Start":"02:10.460 ","End":"02:14.000","Text":"restoration cost balance on 31 December 20X1."},{"Start":"02:14.000 ","End":"02:15.380","Text":"If we go back to the question,"},{"Start":"02:15.380 ","End":"02:20.870","Text":"we can see that there was a land restoration cost of 50,000 currency units per mast,"},{"Start":"02:20.870 ","End":"02:26.689","Text":"and that was something that would be paid at the end of the expected life of 25 years."},{"Start":"02:26.689 ","End":"02:35.885","Text":"Since this 50,000 per mast is an amount that will be paid in the future,"},{"Start":"02:35.885 ","End":"02:39.965","Text":"we\u0027re going to need to discount it to the present value."},{"Start":"02:39.965 ","End":"02:43.930","Text":"The discount rate we were given is 2 percent,"},{"Start":"02:43.930 ","End":"02:48.410","Text":"and the other thing we need to remember is that this was 50,000 per mast,"},{"Start":"02:48.410 ","End":"02:51.245","Text":"and there are 10 new masts."},{"Start":"02:51.245 ","End":"02:52.895","Text":"Going back to the solution then,"},{"Start":"02:52.895 ","End":"02:55.846","Text":"one would take the restoration cost of the 50,000,"},{"Start":"02:55.846 ","End":"02:57.950","Text":"so in other words, the future value."},{"Start":"02:57.950 ","End":"03:00.740","Text":"You divide it by the discount rate to the power"},{"Start":"03:00.740 ","End":"03:04.180","Text":"of the number of periods before which it will be due."},{"Start":"03:04.180 ","End":"03:06.435","Text":"The discount rate is 2 percent,"},{"Start":"03:06.435 ","End":"03:10.130","Text":"so it\u0027s 1 plus the 2 percent or 1.02,"},{"Start":"03:10.130 ","End":"03:18.505","Text":"and that 1.02 is to the power of 25 being the number of years before the payment is due."},{"Start":"03:18.505 ","End":"03:25.119","Text":"You then multiply that by 10 masts because that 50,000 was the payment for each mast,"},{"Start":"03:25.119 ","End":"03:31.205","Text":"and the total you get to is 304,765 currency units."},{"Start":"03:31.205 ","End":"03:38.000","Text":"Part 2 asked us for the carrying value of 10 mast on the 31st December 20X1."},{"Start":"03:38.000 ","End":"03:43.100","Text":"The carrying value is calculated as cost minus accumulated depreciation."},{"Start":"03:43.100 ","End":"03:46.310","Text":"Now in order to calculate the accumulated depreciation,"},{"Start":"03:46.310 ","End":"03:48.815","Text":"we need to know when depreciation would begin."},{"Start":"03:48.815 ","End":"03:51.680","Text":"Part 2 required that we calculate the carrying value of"},{"Start":"03:51.680 ","End":"03:55.025","Text":"10 masts on the 31st of December 20X1."},{"Start":"03:55.025 ","End":"04:00.350","Text":"Now the carrying value is calculated as the cost less the accumulated depreciation."},{"Start":"04:00.350 ","End":"04:03.455","Text":"Let\u0027s look at that accumulated depreciation for a moment."},{"Start":"04:03.455 ","End":"04:07.550","Text":"Depreciation begins when the asset is first available for use."},{"Start":"04:07.550 ","End":"04:09.560","Text":"Let\u0027s go back to the question."},{"Start":"04:09.560 ","End":"04:11.825","Text":"In the question, at that point,"},{"Start":"04:11.825 ","End":"04:17.210","Text":"we were told that the 10 new masts became operational from 1st of January 20X2,"},{"Start":"04:17.210 ","End":"04:20.600","Text":"so that\u0027s the date it first became available for use."},{"Start":"04:20.600 ","End":"04:22.850","Text":"We don\u0027t need to know when it was brought in to use."},{"Start":"04:22.850 ","End":"04:26.705","Text":"Depreciation always begins when it first became available for use."},{"Start":"04:26.705 ","End":"04:29.525","Text":"That was the first of January 20X2."},{"Start":"04:29.525 ","End":"04:31.760","Text":"Now remember, we are being asked for"},{"Start":"04:31.760 ","End":"04:35.540","Text":"the carrying amount or carrying value at the 31st of December 20X1,"},{"Start":"04:35.540 ","End":"04:37.010","Text":"which is the day before."},{"Start":"04:37.010 ","End":"04:39.860","Text":"So that then means that no depreciation would have been"},{"Start":"04:39.860 ","End":"04:43.045","Text":"processed to the 31st of December 20X1."},{"Start":"04:43.045 ","End":"04:45.180","Text":"So let\u0027s go back to the solution."},{"Start":"04:45.180 ","End":"04:49.515","Text":"That means that when we subtract the accumulated depreciation from our cost,"},{"Start":"04:49.515 ","End":"04:52.730","Text":"that accumulated depreciation is going to be nil when"},{"Start":"04:52.730 ","End":"04:57.310","Text":"we do this calculation 31st December 20X1."},{"Start":"04:57.310 ","End":"04:58.865","Text":"Let\u0027s look at cost."},{"Start":"04:58.865 ","End":"05:00.756","Text":"Going back to the question,"},{"Start":"05:00.756 ","End":"05:02.780","Text":"first of all, we\u0027ve got 10 masts."},{"Start":"05:02.780 ","End":"05:04.495","Text":"Each of them costs 1,000,000."},{"Start":"05:04.495 ","End":"05:07.250","Text":"But don\u0027t forget, there\u0027s also 50,000 that has to be"},{"Start":"05:07.250 ","End":"05:11.156","Text":"paid in connection with each mast 25 years from now,"},{"Start":"05:11.156 ","End":"05:12.545","Text":"and because it\u0027s a future amount,"},{"Start":"05:12.545 ","End":"05:14.870","Text":"we\u0027re going to need to discount that amount."},{"Start":"05:14.870 ","End":"05:16.624","Text":"We\u0027ve got 10 masts,"},{"Start":"05:16.624 ","End":"05:19.370","Text":"multiply by the construction cost per mast,"},{"Start":"05:19.370 ","End":"05:21.170","Text":"which was 1,000,000, and to that,"},{"Start":"05:21.170 ","End":"05:23.585","Text":"we need to add the restoration cost per mast,"},{"Start":"05:23.585 ","End":"05:25.145","Text":"but it needs to be discounted."},{"Start":"05:25.145 ","End":"05:27.099","Text":"So notice we\u0027re not adding 50,000."},{"Start":"05:27.099 ","End":"05:28.850","Text":"We\u0027re adding a discounted amount."},{"Start":"05:28.850 ","End":"05:32.015","Text":"Now, where did I get that 30,477 from?"},{"Start":"05:32.015 ","End":"05:35.990","Text":"That was calculated in Part 1 where we had"},{"Start":"05:35.990 ","End":"05:40.565","Text":"calculated the provision for restoration costs on the 31st December 20X1,"},{"Start":"05:40.565 ","End":"05:43.357","Text":"same date as the carrying value of the 10 masts,"},{"Start":"05:43.357 ","End":"05:46.385","Text":"in other words, the beginning of the useful life of these masts."},{"Start":"05:46.385 ","End":"05:47.660","Text":"But that was for 10 masts,"},{"Start":"05:47.660 ","End":"05:49.610","Text":"so we had to divide that by 10."},{"Start":"05:49.610 ","End":"05:53.210","Text":"So 304765 was the answer to Part 1,"},{"Start":"05:53.210 ","End":"05:54.440","Text":"being the total provision for"},{"Start":"05:54.440 ","End":"05:57.430","Text":"the restoration cost at the beginning of the life of the masts,"},{"Start":"05:57.430 ","End":"06:01.860","Text":"divided by 10 to get a cost per mast."},{"Start":"06:01.860 ","End":"06:11.285","Text":"The 10 multiplied by the total of the 1,000,000 and the 30,477 gives us 10,304,765."},{"Start":"06:11.285 ","End":"06:14.330","Text":"Another way of calculating it would have been to simply take"},{"Start":"06:14.330 ","End":"06:16.730","Text":"10 masts multiplied by"},{"Start":"06:16.730 ","End":"06:20.840","Text":"the construction cost of a million and add the total restoration provision,"},{"Start":"06:20.840 ","End":"06:23.527","Text":"which had already been calculated for 10 masts,"},{"Start":"06:23.527 ","End":"06:27.305","Text":"so just add the 304,765."},{"Start":"06:27.305 ","End":"06:29.930","Text":"Then Part 3. In Part 3,"},{"Start":"06:29.930 ","End":"06:33.335","Text":"we had to calculate the annual depreciation expense."},{"Start":"06:33.335 ","End":"06:38.885","Text":"Depreciation is calculated as the cost of the asset less its residual value,"},{"Start":"06:38.885 ","End":"06:42.340","Text":"that net amount then being divided by the useful life."},{"Start":"06:42.340 ","End":"06:43.910","Text":"Now going back to the question,"},{"Start":"06:43.910 ","End":"06:45.470","Text":"we can see that the residual value,"},{"Start":"06:45.470 ","End":"06:49.070","Text":"another name for residual value is salvage value, was given as 0."},{"Start":"06:49.070 ","End":"06:53.120","Text":"We\u0027re also told that the expected life of the asset was 25 years."},{"Start":"06:53.120 ","End":"06:55.400","Text":"Let\u0027s go back to the solution."},{"Start":"06:55.400 ","End":"06:59.000","Text":"So here we can see now annual depreciation expense calculation."},{"Start":"06:59.000 ","End":"07:05.630","Text":"We start with the cost which was calculated in Part 2, 10,304,765."},{"Start":"07:05.630 ","End":"07:07.610","Text":"You subtract that salvage value,"},{"Start":"07:07.610 ","End":"07:09.440","Text":"otherwise known as residual value,"},{"Start":"07:09.440 ","End":"07:12.800","Text":"that net amount you then divide by the useful life,"},{"Start":"07:12.800 ","End":"07:14.420","Text":"which is 25 years,"},{"Start":"07:14.420 ","End":"07:18.100","Text":"and you get 412,191."},{"Start":"07:18.100 ","End":"07:20.070","Text":"We move on to Part 4."},{"Start":"07:20.070 ","End":"07:22.550","Text":"Part 4 required us to calculate the provision for"},{"Start":"07:22.550 ","End":"07:25.805","Text":"the restoration cost on 31st December 20X2."},{"Start":"07:25.805 ","End":"07:28.790","Text":"Notice that we actually had been asked to calculate the provision"},{"Start":"07:28.790 ","End":"07:31.835","Text":"for restoration cost balance previously in Part 1."},{"Start":"07:31.835 ","End":"07:33.385","Text":"But in Part 1,"},{"Start":"07:33.385 ","End":"07:37.135","Text":"the balance had to be calculated as at 31st December 20X1,"},{"Start":"07:37.135 ","End":"07:39.215","Text":"so this is now a year later."},{"Start":"07:39.215 ","End":"07:40.850","Text":"So we take that 50,000,"},{"Start":"07:40.850 ","End":"07:42.740","Text":"which is the future amount that\u0027s going to be"},{"Start":"07:42.740 ","End":"07:45.250","Text":"paid at the end of the useful life of the mast,"},{"Start":"07:45.250 ","End":"07:48.480","Text":"we divide it by 1.02,"},{"Start":"07:48.480 ","End":"07:50.495","Text":"which is 1 plus the discount rate,"},{"Start":"07:50.495 ","End":"07:53.270","Text":"which we\u0027re told was 2 percent."},{"Start":"07:53.270 ","End":"07:55.925","Text":"Then when we take that 1.02,"},{"Start":"07:55.925 ","End":"08:01.580","Text":"we have to make it to the power of the number of years between"},{"Start":"08:01.580 ","End":"08:03.680","Text":"the date of the calculation of the provision for"},{"Start":"08:03.680 ","End":"08:07.835","Text":"restoration cost and the date on which the future amount is going to be paid."},{"Start":"08:07.835 ","End":"08:11.098","Text":"So notice that it\u0027s the 31st of December 20X2."},{"Start":"08:11.098 ","End":"08:16.295","Text":"Bearing in mind the asset became available for use on the 1st of January 20X2,"},{"Start":"08:16.295 ","End":"08:19.675","Text":"it means that we\u0027re 1 year into the asset\u0027s useful life."},{"Start":"08:19.675 ","End":"08:23.795","Text":"That therefore means that given that the useful life used to be 25,"},{"Start":"08:23.795 ","End":"08:25.835","Text":"originally, we subtract 1 year,"},{"Start":"08:25.835 ","End":"08:29.269","Text":"and it\u0027s now to the power of 24."},{"Start":"08:29.269 ","End":"08:35.695","Text":"So there are 24 years left until the asset reaches the end of its useful life."},{"Start":"08:35.695 ","End":"08:39.665","Text":"We then take that and multiply by 10 because we know we have 10 masts,"},{"Start":"08:39.665 ","End":"08:42.530","Text":"and we get 310,861."},{"Start":"08:42.530 ","End":"08:45.410","Text":"I just want you to compare this calculation for"},{"Start":"08:45.410 ","End":"08:48.785","Text":"Part 4 with the calculation that we had for Part 1."},{"Start":"08:48.785 ","End":"08:53.135","Text":"Remember, Part 1\u0027s provision was calculated at 31st December 20X1,"},{"Start":"08:53.135 ","End":"08:57.080","Text":"and you can see there because that\u0027s at the beginning of the useful life of the asset,"},{"Start":"08:57.080 ","End":"08:59.390","Text":"and it only became available for use the very next day,"},{"Start":"08:59.390 ","End":"09:01.270","Text":"so there\u0027s still 25 years to go."},{"Start":"09:01.270 ","End":"09:06.470","Text":"That meant that that calculation in Part 1 is 50,000 divided by 1.02^25,"},{"Start":"09:06.470 ","End":"09:11.075","Text":"the full useful life was left before that 50,000 would be due and payable,"},{"Start":"09:11.075 ","End":"09:13.285","Text":"and multiply it by 10."},{"Start":"09:13.285 ","End":"09:17.060","Text":"In Part 4, you can see the calculation is almost identical except that the"},{"Start":"09:17.060 ","End":"09:20.765","Text":"1.02 is to the power of 24 and not to the power of 25,"},{"Start":"09:20.765 ","End":"09:24.035","Text":"and that\u0027s because 1 year has been used up by now."},{"Start":"09:24.035 ","End":"09:29.810","Text":"Another way of calculating it would be to have taken 304,765."},{"Start":"09:29.810 ","End":"09:32.510","Text":"Where did I get that? That was from Part 1."},{"Start":"09:32.510 ","End":"09:38.110","Text":"That was the opening provision balance that we calculated as at 31st December 20X1."},{"Start":"09:38.110 ","End":"09:42.955","Text":"So that\u0027s 304,765 multiplied by 1.02."},{"Start":"09:42.955 ","End":"09:44.630","Text":"What are we actually doing here?"},{"Start":"09:44.630 ","End":"09:46.580","Text":"We are adding 2 percent."},{"Start":"09:46.580 ","End":"09:49.970","Text":"We are reversing the effects of discounting,"},{"Start":"09:49.970 ","End":"09:54.070","Text":"sometimes referred to as unwinding of the discount."},{"Start":"09:54.070 ","End":"09:57.390","Text":"If you take 304,765,"},{"Start":"09:57.390 ","End":"09:59.465","Text":"and you add 2 percent, like we\u0027ve done here,"},{"Start":"09:59.465 ","End":"10:05.566","Text":"multiplying by 1.02, you can see that the amount grows to 310,861,"},{"Start":"10:05.566 ","End":"10:07.230","Text":"so the provision is getting bigger."},{"Start":"10:07.230 ","End":"10:09.350","Text":"If you keep doing that every single year,"},{"Start":"10:09.350 ","End":"10:10.910","Text":"add 2 percent every single year,"},{"Start":"10:10.910 ","End":"10:12.470","Text":"so that we\u0027ve added 2 percent for the first year,"},{"Start":"10:12.470 ","End":"10:13.970","Text":"if you do it again for the second, third,"},{"Start":"10:13.970 ","End":"10:16.385","Text":"and the fourth, and you carry on for 25 years,"},{"Start":"10:16.385 ","End":"10:19.275","Text":"that provision will grow to 500,000,"},{"Start":"10:19.275 ","End":"10:22.890","Text":"which is the 50,000 per mast times 10 masts,"},{"Start":"10:22.890 ","End":"10:28.530","Text":"so that is the 500,000 cash outflow that we\u0027re expecting to incur."}],"ID":31010},{"Watched":false,"Name":"Exercise 7","Duration":"13m 1s","ChapterTopicVideoID":29396,"CourseChapterTopicPlaylistID":291058,"HasSubtitles":true,"ThumbnailPath":null,"UploadDate":null,"DurationForVideoObject":null,"Description":null,"MetaTitle":null,"MetaDescription":null,"Canonical":null,"VideoComments":[],"Subtitles":[{"Start":"00:00.050 ","End":"00:03.974","Text":"This exercise deals with an environmental disaster."},{"Start":"00:03.974 ","End":"00:06.375","Text":"Exeter petroleum, EP,"},{"Start":"00:06.375 ","End":"00:10.755","Text":"is an oil and gas company that operates a number of oil rigs in the North Sea."},{"Start":"00:10.755 ","End":"00:12.510","Text":"At the end of 20X1,"},{"Start":"00:12.510 ","End":"00:14.715","Text":"a fire destroyed 1 of its rigs."},{"Start":"00:14.715 ","End":"00:18.645","Text":"The fire cause large environmental damage to the sea floor,"},{"Start":"00:18.645 ","End":"00:21.000","Text":"and nearby fisheries as well."},{"Start":"00:21.000 ","End":"00:25.740","Text":"EP is expecting to reach an agreement with the environment agency under which will take"},{"Start":"00:25.740 ","End":"00:28.470","Text":"remedial action to the sea floor and compensate"},{"Start":"00:28.470 ","End":"00:32.040","Text":"local communities whose livelihoods depend on the fisheries."},{"Start":"00:32.040 ","End":"00:34.215","Text":"As at the end of 20X1,"},{"Start":"00:34.215 ","End":"00:38.415","Text":"EP estimates that it will need to spend 1 million currency units each year,"},{"Start":"00:38.415 ","End":"00:42.495","Text":"in the following 3 years, 20X2-20X4."},{"Start":"00:42.495 ","End":"00:47.355","Text":"During 20X2, EP spends 1.1 million."},{"Start":"00:47.355 ","End":"00:49.450","Text":"At the end of 20X2,"},{"Start":"00:49.450 ","End":"00:52.580","Text":"following the signing of an agreement with the Environment Agency,"},{"Start":"00:52.580 ","End":"00:58.910","Text":"EP revises its remaining costs to be 1.2 million in each of the remaining 2 years."},{"Start":"00:58.910 ","End":"01:02.575","Text":"In other words, we\u0027re 20X3 and 20X4."},{"Start":"01:02.575 ","End":"01:05.945","Text":"EP uses a 3 percent discount rate."},{"Start":"01:05.945 ","End":"01:09.920","Text":"We are also to assume that cash is spent at year-end."},{"Start":"01:09.920 ","End":"01:15.230","Text":"Required. Calculate the balance of the provision EP needs to establish with"},{"Start":"01:15.230 ","End":"01:20.240","Text":"respect to this disaster at the end of 20X1 and 20X2."},{"Start":"01:20.240 ","End":"01:23.330","Text":"Part 2, calculate the expense it needs to"},{"Start":"01:23.330 ","End":"01:27.665","Text":"recognize in 20X2 and distinguish between interest expense,"},{"Start":"01:27.665 ","End":"01:31.615","Text":"and other remedial or compensation costs."},{"Start":"01:31.615 ","End":"01:36.455","Text":"Let\u0027s take a look at the solution to the environmental disaster exercise."},{"Start":"01:36.455 ","End":"01:39.980","Text":"Part 1 asked us to calculate the closing balance of"},{"Start":"01:39.980 ","End":"01:44.380","Text":"the provision at the end of 20X1 and the provision at the end of 20X2."},{"Start":"01:44.380 ","End":"01:48.185","Text":"Now, when we measure a recognized provision,"},{"Start":"01:48.185 ","End":"01:53.240","Text":"we need to measure it at the present value of the future cash flows that we\u0027re expecting."},{"Start":"01:53.240 ","End":"01:57.290","Text":"If we take a look at the balance of the provision at the end of 20X1 for example,"},{"Start":"01:57.290 ","End":"02:01.840","Text":"we have cashflows that we\u0027re expecting to pay at the end of 20X2,"},{"Start":"02:01.840 ","End":"02:04.920","Text":"20X3, and also at the end of 20X4."},{"Start":"02:04.920 ","End":"02:08.914","Text":"1 million end of 20X2, and that\u0027s important,"},{"Start":"02:08.914 ","End":"02:10.760","Text":"1 million at the end of 20X3,"},{"Start":"02:10.760 ","End":"02:13.960","Text":"and 1 million at the end of 20X4."},{"Start":"02:13.960 ","End":"02:17.495","Text":"That\u0027s a total cash outflow that we\u0027re expecting a 3 million."},{"Start":"02:17.495 ","End":"02:21.410","Text":"But you\u0027ll notice that the provision that we recognize is not measured at 3 million,"},{"Start":"02:21.410 ","End":"02:23.860","Text":"is going to be at an amount less than that,"},{"Start":"02:23.860 ","End":"02:26.625","Text":"and that is because we\u0027re going to discount it to"},{"Start":"02:26.625 ","End":"02:30.095","Text":"the present value of each of those outflows."},{"Start":"02:30.095 ","End":"02:32.045","Text":"Let\u0027s take the first 1 million."},{"Start":"02:32.045 ","End":"02:34.340","Text":"The first million that we\u0027re going to be paying,"},{"Start":"02:34.340 ","End":"02:36.905","Text":"is at the end of 20X2."},{"Start":"02:36.905 ","End":"02:38.810","Text":"Now remember what we\u0027re doing here is we\u0027re"},{"Start":"02:38.810 ","End":"02:42.025","Text":"calculating the balance of the provision at the end of 20X1."},{"Start":"02:42.025 ","End":"02:45.560","Text":"Now that means it\u0027s 1 year away."},{"Start":"02:46.010 ","End":"02:52.055","Text":"When we discount the future cash flow to get the present value, the first thing we do,"},{"Start":"02:52.055 ","End":"02:54.725","Text":"we take that 1 million, the first 1 million,"},{"Start":"02:54.725 ","End":"02:58.235","Text":"we divide it by 1 plus whatever the discount rate is."},{"Start":"02:58.235 ","End":"03:01.370","Text":"The discount rate given to us in this question was 3 percent."},{"Start":"03:01.370 ","End":"03:04.475","Text":"We\u0027re going to be dividing it by 1.03."},{"Start":"03:04.475 ","End":"03:06.520","Text":"That\u0027s 1 plus the 3 percent."},{"Start":"03:06.520 ","End":"03:11.500","Text":"We\u0027re going to put that 1.03 to the power of 1."},{"Start":"03:11.500 ","End":"03:17.435","Text":"The denominator, the 1.03 is always to the power of the number of years"},{"Start":"03:17.435 ","End":"03:19.790","Text":"between the date that the provision is being"},{"Start":"03:19.790 ","End":"03:23.725","Text":"measured to the date when the cashflow is going to occur."},{"Start":"03:23.725 ","End":"03:25.575","Text":"As to the power of 1,"},{"Start":"03:25.575 ","End":"03:30.770","Text":"this is the first 1 million remember that\u0027s due a year from now at the end of 20X2."},{"Start":"03:30.770 ","End":"03:33.730","Text":"Let\u0027s take a look at the second 1 million."},{"Start":"03:33.730 ","End":"03:35.840","Text":"The second 1 million again,"},{"Start":"03:35.840 ","End":"03:37.715","Text":"we divide it by 1.03,"},{"Start":"03:37.715 ","End":"03:42.595","Text":"but the 1.03 is to the power of 2 this time."},{"Start":"03:42.595 ","End":"03:47.240","Text":"The reason is we\u0027re calculating the provision at the end of 20X1,"},{"Start":"03:47.240 ","End":"03:51.185","Text":"and the second 1 million is due to be paid at the end of 20X3,"},{"Start":"03:51.185 ","End":"03:53.110","Text":"so it\u0027s 2 years away."},{"Start":"03:53.110 ","End":"03:55.325","Text":"Then the third 1 million,"},{"Start":"03:55.325 ","End":"03:57.545","Text":"we\u0027re going to divide by 1.03."},{"Start":"03:57.545 ","End":"04:01.805","Text":"This third 1 million is due to be paid at the end of 20X4."},{"Start":"04:01.805 ","End":"04:04.115","Text":"We\u0027re going to divide it by 1.03."},{"Start":"04:04.115 ","End":"04:10.640","Text":"Because 20X4 with the end of 20X4 is 3 years away from the end of 20X1."},{"Start":"04:10.640 ","End":"04:12.740","Text":"We put it to the power of 3."},{"Start":"04:12.740 ","End":"04:17.670","Text":"If you solve for that, you get 2.828611 odd million,"},{"Start":"04:17.670 ","End":"04:20.630","Text":"so we\u0027ve rounded it to 6 decimal points there."},{"Start":"04:20.630 ","End":"04:25.000","Text":"Let\u0027s just round it to 2.83 to 2 decimal points."},{"Start":"04:25.000 ","End":"04:27.940","Text":"What we have here is the present value of"},{"Start":"04:27.940 ","End":"04:31.030","Text":"the cashflows that are expected at the end of 20X2,"},{"Start":"04:31.030 ","End":"04:32.770","Text":"end of 20X3, and end of 20X4."},{"Start":"04:32.770 ","End":"04:35.590","Text":"You see again that 2.83 is less than the"},{"Start":"04:35.590 ","End":"04:39.710","Text":"3 million that we\u0027re expecting to actually have to pay in cash."},{"Start":"04:39.710 ","End":"04:42.520","Text":"Then the second part of Part 1 was to"},{"Start":"04:42.520 ","End":"04:45.940","Text":"calculate the balance of the provision at the end of 20X2."},{"Start":"04:45.940 ","End":"04:47.410","Text":"Before I show you the cash-flows,"},{"Start":"04:47.410 ","End":"04:49.615","Text":"just remember 20X1,"},{"Start":"04:49.615 ","End":"04:52.860","Text":"we expected to pay 1 million in 20X2,"},{"Start":"04:52.860 ","End":"04:55.205","Text":"3, and 4."},{"Start":"04:55.205 ","End":"04:59.125","Text":"By the time we get to the end of 20X2 things have changed."},{"Start":"04:59.125 ","End":"05:04.720","Text":"Our expectation is that we\u0027re going to be paying 1.2 million at the end of 20X3,"},{"Start":"05:04.720 ","End":"05:07.535","Text":"and 1.2 million at the end of 20X4."},{"Start":"05:07.535 ","End":"05:09.125","Text":"The principles are the same."},{"Start":"05:09.125 ","End":"05:12.755","Text":"We\u0027re dividing it by 1.03 with a 3 as the discount rate,"},{"Start":"05:12.755 ","End":"05:16.100","Text":"and the 1.03 is to the power of the number of years"},{"Start":"05:16.100 ","End":"05:19.745","Text":"between the time we\u0027re doing the actual provision measurement,"},{"Start":"05:19.745 ","End":"05:22.310","Text":"which is in this case 31st, December 20X2,"},{"Start":"05:22.310 ","End":"05:24.935","Text":"and the date of the actual cash outflow,"},{"Start":"05:24.935 ","End":"05:26.730","Text":"which is 31st, December 20X3."},{"Start":"05:26.730 ","End":"05:29.575","Text":"There\u0027s 1 year differences so to the power of 1."},{"Start":"05:29.575 ","End":"05:34.125","Text":"The second 1.2 million is due at the end of 20X4."},{"Start":"05:34.125 ","End":"05:37.460","Text":"We divide that by 1.03 to the power of 2"},{"Start":"05:37.460 ","End":"05:41.795","Text":"because the end of 20X4 is 2 years away from the end of 20X2."},{"Start":"05:41.795 ","End":"05:43.445","Text":"If we solve for that,"},{"Start":"05:43.445 ","End":"05:52.765","Text":"we get 2.296164 million or 2.30 million if we round it to just 2 decimal points."},{"Start":"05:52.765 ","End":"05:55.090","Text":"There are the answers to Part 1."},{"Start":"05:55.090 ","End":"05:57.320","Text":"The balance of the provision at the end of 20X1 is"},{"Start":"05:57.320 ","End":"05:59.975","Text":"2.83 million rounded to 2 decimal points."},{"Start":"05:59.975 ","End":"06:03.790","Text":"Then as the provision at the end of 20X2 is 2.3 million,"},{"Start":"06:03.790 ","End":"06:05.915","Text":"rounded to 2 decimal points."},{"Start":"06:05.915 ","End":"06:08.000","Text":"Now moving on to Part 2,"},{"Start":"06:08.000 ","End":"06:11.510","Text":"the expenses relating to the provision in 20X2."},{"Start":"06:11.510 ","End":"06:14.750","Text":"For us to calculate the expenses that emanate"},{"Start":"06:14.750 ","End":"06:18.545","Text":"from the provision measurement in any particular year,"},{"Start":"06:18.545 ","End":"06:23.405","Text":"what we need to be able to do is visualize what goes through the provision account"},{"Start":"06:23.405 ","End":"06:25.040","Text":"and be able to reconcile between"},{"Start":"06:25.040 ","End":"06:28.790","Text":"the opening balance of the provision and the closing balance of the provision,"},{"Start":"06:28.790 ","End":"06:31.700","Text":"and identify any movements between"},{"Start":"06:31.700 ","End":"06:35.885","Text":"the opening balance and closing balance that might affect the expense account."},{"Start":"06:35.885 ","End":"06:39.905","Text":"Sometimes, for example, your provision gets reduced."},{"Start":"06:39.905 ","End":"06:41.450","Text":"You would debit to provision,"},{"Start":"06:41.450 ","End":"06:44.825","Text":"and it\u0027s because of a payment and then we credit bank."},{"Start":"06:44.825 ","End":"06:48.980","Text":"In that case, that movement that would cause a change between the opening balance and"},{"Start":"06:48.980 ","End":"06:53.720","Text":"closing balance clearly has no impact on expenses because as I said,"},{"Start":"06:53.720 ","End":"06:57.080","Text":"a debit to the provision or a decrease in the provision and the other side of"},{"Start":"06:57.080 ","End":"07:00.600","Text":"the entry is a decrease in the bank, or a credit to the bank."},{"Start":"07:00.600 ","End":"07:03.110","Text":"It didn\u0027t affect the expense account."},{"Start":"07:03.110 ","End":"07:05.630","Text":"However, some movements between the opening balance and"},{"Start":"07:05.630 ","End":"07:09.670","Text":"closing balance actually do impact our expenses."},{"Start":"07:09.670 ","End":"07:15.050","Text":"Let\u0027s look at how we reconciled our ending balance of any provision account."},{"Start":"07:15.050 ","End":"07:17.570","Text":"We would start with the beginning balance."},{"Start":"07:17.570 ","End":"07:19.940","Text":"Now remember that beginning balance represents"},{"Start":"07:19.940 ","End":"07:23.840","Text":"the present value of a future cash outflow."},{"Start":"07:23.840 ","End":"07:25.760","Text":"That means it\u0027s been discounted."},{"Start":"07:25.760 ","End":"07:28.775","Text":"Over time your provision needs to"},{"Start":"07:28.775 ","End":"07:33.275","Text":"gradually increase to the actual amount of the cashflow."},{"Start":"07:33.275 ","End":"07:38.965","Text":"So over time, we\u0027re going to unwind the effects of discounting."},{"Start":"07:38.965 ","End":"07:40.505","Text":"We take a future cashflow,"},{"Start":"07:40.505 ","End":"07:44.135","Text":"we discounted to the present value and we recognize that as a provision."},{"Start":"07:44.135 ","End":"07:49.490","Text":"Then every year we increase that provision with what we call an interest amount,"},{"Start":"07:49.490 ","End":"07:52.970","Text":"and that is the reversal of the effects of discounting."},{"Start":"07:52.970 ","End":"07:57.460","Text":"In this question, we\u0027re discounting using an interest rate of 3 percent,"},{"Start":"07:57.460 ","End":"08:01.810","Text":"and if that 3 percent that then gets added to the provision each and every year."},{"Start":"08:01.810 ","End":"08:02.840","Text":"This is what happens."},{"Start":"08:02.840 ","End":"08:04.355","Text":"We take our beginning balance,"},{"Start":"08:04.355 ","End":"08:06.020","Text":"we add the interest expense,"},{"Start":"08:06.020 ","End":"08:09.740","Text":"which is going to be a calculation based on the discount rate or interest rate,"},{"Start":"08:09.740 ","End":"08:11.900","Text":"multiplied by the beginning balance."},{"Start":"08:11.900 ","End":"08:16.530","Text":"We might also have any further remedial or compensation, whether expenses."},{"Start":"08:16.530 ","End":"08:18.245","Text":"This is where, for example,"},{"Start":"08:18.245 ","End":"08:21.890","Text":"we are expecting further cash outflows that we"},{"Start":"08:21.890 ","End":"08:25.910","Text":"hadn\u0027t expected initially when we calculated the beginning balance."},{"Start":"08:25.910 ","End":"08:28.445","Text":"These are additional costs that you think, oh my goodness,"},{"Start":"08:28.445 ","End":"08:33.550","Text":"we have forgotten to include this particular cost in our provision."},{"Start":"08:33.550 ","End":"08:37.250","Text":"We then also have remedial and compensation adjustments."},{"Start":"08:37.250 ","End":"08:40.220","Text":"Sometimes these gets expensed,"},{"Start":"08:40.220 ","End":"08:44.645","Text":"we would increase the provision and the other side of the entry goes to the expense."},{"Start":"08:44.645 ","End":"08:47.570","Text":"Sometimes these might actually go to an asset account."},{"Start":"08:47.570 ","End":"08:51.120","Text":"We\u0027re going to assume that all of these went through an expense,"},{"Start":"08:51.120 ","End":"08:54.890","Text":"and then we have payments made during the year."},{"Start":"08:54.890 ","End":"08:58.715","Text":"Just notice that in this reconciliation here,"},{"Start":"08:58.715 ","End":"09:01.310","Text":"we\u0027ve got 2 movements between the beginning balance and"},{"Start":"09:01.310 ","End":"09:03.890","Text":"the ending balance, that affect expenses."},{"Start":"09:03.890 ","End":"09:06.125","Text":"We\u0027ve got the interest expense,"},{"Start":"09:06.125 ","End":"09:09.560","Text":"and then we have remedial or compensation expenses."},{"Start":"09:09.560 ","End":"09:12.530","Text":"Let\u0027s populate this with the information that we have."},{"Start":"09:12.530 ","End":"09:16.575","Text":"The ending balance of the provision in 20X2."},{"Start":"09:16.575 ","End":"09:18.510","Text":"The closing balance, 31st,"},{"Start":"09:18.510 ","End":"09:21.075","Text":"December 20X2 is 2.3 million."},{"Start":"09:21.075 ","End":"09:23.080","Text":"We calculated that in part 1,"},{"Start":"09:23.080 ","End":"09:27.140","Text":"that is then equal to the beginning balance of that provision,"},{"Start":"09:27.140 ","End":"09:29.270","Text":"which is the 31st,"},{"Start":"09:29.270 ","End":"09:31.160","Text":"December 20X1 closing balance,"},{"Start":"09:31.160 ","End":"09:33.890","Text":"which we calculated in Part 1,"},{"Start":"09:33.890 ","End":"09:35.795","Text":"and that was 2.83 million."},{"Start":"09:35.795 ","End":"09:38.720","Text":"We then add to this any interest expense."},{"Start":"09:38.720 ","End":"09:42.110","Text":"Remember, this is the unwinding of the effects of the discounting."},{"Start":"09:42.110 ","End":"09:45.770","Text":"We take our opening balance of 2.83 and we multiply by"},{"Start":"09:45.770 ","End":"09:49.815","Text":"3 percent to get the interest expense for that year."},{"Start":"09:49.815 ","End":"09:51.615","Text":"We slowly increasing the provision,"},{"Start":"09:51.615 ","End":"09:55.670","Text":"so that ultimately when the cashflows do,"},{"Start":"09:55.670 ","End":"09:58.400","Text":"it will equal the actual amount of the cash flow."},{"Start":"09:58.400 ","End":"10:02.930","Text":"Then we add the remedial compensation amounts that are going to be expensed."},{"Start":"10:02.930 ","End":"10:06.010","Text":"In this case we were given no information regarding that."},{"Start":"10:06.010 ","End":"10:08.780","Text":"We just leave it as an unknown."},{"Start":"10:08.830 ","End":"10:13.190","Text":"Then we subtract our payments made during the year."},{"Start":"10:13.190 ","End":"10:17.090","Text":"Here we\u0027re told we paid 1.1 million during 20X2."},{"Start":"10:17.090 ","End":"10:18.650","Text":"Let\u0027s put this on 1 line."},{"Start":"10:18.650 ","End":"10:20.810","Text":"I\u0027ve just moved it up onto 1 line."},{"Start":"10:20.810 ","End":"10:25.730","Text":"Let\u0027s just move it slightly to the right so we can see things a little more clearly."},{"Start":"10:25.730 ","End":"10:30.170","Text":"There\u0027s the 2.3 equals the opening balance of 2.83 plus the"},{"Start":"10:30.170 ","End":"10:35.450","Text":"interest of 2.83 multiplied by 3 percent plus this unknown amount,"},{"Start":"10:35.450 ","End":"10:40.165","Text":"the remedial compensation expenses minus the payment for the year."},{"Start":"10:40.165 ","End":"10:44.540","Text":"We\u0027ve just separated the left-hand side and the right-hand side so we can see it easier."},{"Start":"10:44.540 ","End":"10:48.950","Text":"Now, this is just a mirror image of what I\u0027ve shown you in the line above."},{"Start":"10:48.950 ","End":"10:53.665","Text":"I\u0027ve just moved and everything that was on the left-hand side to the right-hand side."},{"Start":"10:53.665 ","End":"10:58.895","Text":"Now the point is to get the remedial compensation expense on its own."},{"Start":"10:58.895 ","End":"11:01.430","Text":"To do that, we have to get rid of all these other numbers,"},{"Start":"11:01.430 ","End":"11:03.995","Text":"the 2.83, the 2.83 by 3 percent,"},{"Start":"11:03.995 ","End":"11:05.779","Text":"and the minus 1.1."},{"Start":"11:05.779 ","End":"11:09.350","Text":"Now, if you\u0027re going to get rid of something in an equation such as this,"},{"Start":"11:09.350 ","End":"11:11.155","Text":"you\u0027ve got to change the sign."},{"Start":"11:11.155 ","End":"11:13.730","Text":"The 2.83 is currently on the left-hand side."},{"Start":"11:13.730 ","End":"11:15.920","Text":"We want to move it to the right hand side so that we\u0027ve got"},{"Start":"11:15.920 ","End":"11:19.100","Text":"the remedial compensation expense lift over on the left-hand side."},{"Start":"11:19.100 ","End":"11:21.860","Text":"We move the 2.83 over to the other side,"},{"Start":"11:21.860 ","End":"11:25.880","Text":"and it has to change from being a positive amount to a negative amount."},{"Start":"11:25.880 ","End":"11:28.370","Text":"Then we take the 2.83 miles by about 3 percent."},{"Start":"11:28.370 ","End":"11:30.590","Text":"You can see it\u0027s a positive amount on the left-hand side,"},{"Start":"11:30.590 ","End":"11:32.525","Text":"we need to move it across to the other side."},{"Start":"11:32.525 ","End":"11:34.775","Text":"We simply move it across,"},{"Start":"11:34.775 ","End":"11:36.275","Text":"and make it a negative amount."},{"Start":"11:36.275 ","End":"11:39.275","Text":"It\u0027s minus 2.83 by 3 percent."},{"Start":"11:39.275 ","End":"11:42.545","Text":"Then the last amount that needs to go across to the other side,"},{"Start":"11:42.545 ","End":"11:45.020","Text":"is the minus 1.1."},{"Start":"11:45.020 ","End":"11:46.730","Text":"To get rid of that,"},{"Start":"11:46.730 ","End":"11:49.270","Text":"we need to edit to the other side."},{"Start":"11:49.270 ","End":"11:53.569","Text":"That\u0027s what we\u0027ve got now. The remedial compensation expense can now be calculated."},{"Start":"11:53.569 ","End":"11:56.375","Text":"It\u0027s the 2.3 minus 2.83,"},{"Start":"11:56.375 ","End":"12:00.370","Text":"minus 2.83 by 3 percent plus 1.1,"},{"Start":"12:00.370 ","End":"12:02.415","Text":"and that gives us 0.49,"},{"Start":"12:02.415 ","End":"12:05.945","Text":"and I rounded that again just to 2 decimal points."},{"Start":"12:05.945 ","End":"12:09.185","Text":"But please remember that is not the answer."},{"Start":"12:09.185 ","End":"12:11.300","Text":"The answer is actually 0.57."},{"Start":"12:11.300 ","End":"12:13.370","Text":"In other words, the total expense is going to appear on"},{"Start":"12:13.370 ","End":"12:17.045","Text":"the income statement in 20X2, is 0.57."},{"Start":"12:17.045 ","End":"12:19.445","Text":"That\u0027s because just remember,"},{"Start":"12:19.445 ","End":"12:23.225","Text":"there are 2 expenses that are emanating from this provision account."},{"Start":"12:23.225 ","End":"12:25.070","Text":"There\u0027s the interest expense,"},{"Start":"12:25.070 ","End":"12:28.465","Text":"and then there\u0027s a remedial compensation expense."},{"Start":"12:28.465 ","End":"12:33.500","Text":"The remedial and compensation expense we\u0027ve just worked out as 0.49."},{"Start":"12:33.500 ","End":"12:36.260","Text":"But don\u0027t forget the interest expense,"},{"Start":"12:36.260 ","End":"12:41.150","Text":"which was the opening balance of 2.83 multiplied by the discount rate that we\u0027d used."},{"Start":"12:41.150 ","End":"12:43.325","Text":"That gives us 0.08,"},{"Start":"12:43.325 ","End":"12:45.680","Text":"also just rounded to 2 decimal points."},{"Start":"12:45.680 ","End":"12:51.760","Text":"As you can see, there are 2 expenses that are in that formula above interest expense,"},{"Start":"12:51.760 ","End":"12:53.550","Text":"and the remedial compensation expense,"},{"Start":"12:53.550 ","End":"12:55.320","Text":"and those 2 are circled below,"},{"Start":"12:55.320 ","End":"12:57.000","Text":"and the total of those 2,"},{"Start":"12:57.000 ","End":"13:02.350","Text":"0.08 and the 0.49 gives us the 0.57."}],"ID":31011}],"Thumbnail":null,"ID":291058}]

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