Provisions and Contingencies

Dear John,

This question is from Kaplan (Q173)

Driller Co undertakes oil and gas exploration activities. One of the conditions of the operating license is that Driller must make good any damage caused to the local environment as a result of its exploration activities. As at the year-end date of 31/8/20X4, Driller Co estimated that the cost of rectifying damage already caused at current explotiom sites at $5 million. At that date Driller Co estimated that the cost of rectifying expexted future dage at current exploration sites at an additional $20 million. Driller Co also estimated that all current exploration sites will operate until 20X7 or beyond that date.

How should this information be reported i the financial statements of Driller Co for the year ended 31/8/20X4?

A – There should be a provision classified as a current liability for $5 million
B – There should be a provision classified as a current liability for $25 million
C – There should be a provision classified as a non-current liability for $5 million
D – There should be a provision classified as non-current liability for $25 million

Answer given – B

The book also explains that,

“Based upon the license terms, damage has already been caused which will cost $5 million to rectify in 20X7 or later. This should be recognised and classified as a non-current liability.” (I dont understand why the answer says ‘current liability’ but in the explanation, it says ‘non-current liability)

Thank you 🙂