I was excited this past week to read that the IASB recently published a second exposure draft on a portion of IAS 37 Provisions, Contingent Liabilities, and Contingent Assets. I know, excitement might be too strong of a word, but I was looking forward to seeing whether the IASB’s decision on how to measure onerous contracts within IAS 37 would be consistent with their decision on how to measure onerous contracts within the proposed new revenue recognition model.

As a quick reminder, the IASB reached a tentative decision in the revenue recognition discussion paper that onerous contracts (ie, those for which the expected remaining costs exceed the carrying value of that liability) would be measured at cost. The recently re-exposed IAS 37 proposes that onerous contracts be measured as follows:

36A An entity shall measure a liability at the amount that it would rationally pay at the end of the reporting period to be relieved of the present
obligation.

36B The amount that an entity would rationally pay to be relieved of an obligation is the lowest of: (a) the present value of the resources required to fulfil the obligation, measured in accordance with Appendix B; (b) the amount that the entity would have to pay to cancel the obligation; and (c) the amount that the entity would have to pay to transfer the obligation to a third party.

When I first read this guidance, I thought for sure that the boards had chosen a different measurement approach for onerous contracts in IAS 37 than for onerous contracts in revenue recognition. Specifically, the IAS 37 approach would include a margin that a third party would charge on top of its own costs if the price that third party charged was less than the entity’s own expected costs. In other words, the proposed new IAS 37 approach would be more akin to an exit price for the liability. This definitely would have been at odds with the proposed accounting for onerous contracts under the revenue recognition model. But then I read just a little bit further into the IAS 37 exposure draft appendix B:

B8 Some types of obligation will be fulfilled by undertaking a service at a future date. Subject to the exception in paragraph B9, the relevant outflows for such obligations are the amounts that the entity would rationally pay a contractor at the future date to undertake the service on its behalf: (a) if there is a market for a service, the amount is the price that the entity estimates a contractor would charge at the future date to undertake the service on the entity’s behalf. (b) if there is not a market for the service, the entity estimates the amount it would charge another party at the future date to undertake the service. The estimates shall include the costs the entity expects to incur and the margin it would require to undertake the service for the other party.

B9 If the obligation is an onerous contract arising from a transaction within the scope of IAS 18 Revenue or IFRS 4 Insurance Contracts, the relevant future outflows are the costs the entity expects to incur to fulfil its contractual obligations. 

That last paragraph basically says that if the onerous contract is part of a contract with a customer within the scope of IAS 18 or IFRS 4, then the onerous contract is measured only at cost with no additional margin that a third party or the entity itself would charge for those same services. While I can appreciate the simplicity of this approach for most revenue contracts (and in fact, I tend to agree with that approach), this is yet one more instance in which a liability to perform similar services can potentially be measured in the financial statements at a different amount, depending on whether that service is part of a contract with a customer or outside of a contract with a customer. Although I have no alternative to suggest to this mixed-attribute approach for identical liabilities, I can’t help but feel frustrated with the outcome. Ah, if only the things we want to measure in life would make themselves easier to measure—but then again, the value of accounting would probably be greatly diminished if that were the case.