Contingent assets and measurement of a provision (AS-29)

Contingent asset. A contingent asset is a possible asset arising from past events, whose “existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the enterprise” (AS-29, para 10.5). Contingent assets usually arise from unplanned or unexpected events that give the possibility of an inflow of economic benefits: for example, a claim the enterprise is pursuing through legal processes where the outcome is uncertain. Beyond the question — their treatment under AS-29:

• Not recognised. An enterprise should not recognise a contingent asset, since this may result in the recognition of income that may never be realised.
• Not disclosed in the financial statements. A contingent asset is usually disclosed instead in the report of the approving authority (the Board of Directors, for a company) where an inflow of economic benefits is probable.
• Recognised once virtually certain. When realisation of the income is virtually certain, the asset is no longer contingent; contingent assets are assessed continually, and the asset and related income are recognised in the period in which that change occurs.

Principles for measuring a provision (AS-29).

1. Best estimate. The amount recognised is the best estimate of the expenditure required to settle the present obligation at the balance sheet date.
2. No discounting: with one exception. A provision is not discounted to its present value, except for decommissioning, restoration and similar liabilities recognised as part of the cost of property, plant and equipment.
3. Judgment and evidence. Estimates are made by management's judgment, supplemented by experience of similar transactions and, in some cases, independent experts' reports, and take account of events after the balance sheet date.
4. Before tax. The provision is measured before tax; its tax consequences fall under AS-22.
5. Risks and uncertainties are taken into account in reaching the best estimate, with caution so that liabilities are not understated: but uncertainty does not justify excessive provisions.

Illustration, beyond the question: reaching a best estimate for many similar obligations. AS-29 prescribes the best estimate but no formula. For a large number of similar warranty obligations, one reasonable way to reach it is to weight each possible outcome by its probability (the "expected value" approach, which Ind AS 37 names). A firm's goods are under warranty: if minor defects arose in all goods sold, repairs would cost ₹2,00,000; if major defects, ₹5,00,000. Experience: 85% no defect, 10% minor, 5% major.

Provision = ₹45,000. It is a warranty provision, not a decommissioning liability, so it is not discounted.