ADMS4510 TERM PROJECT
Question 4: For a performance obligation that an entity satisfies over time and expects at contract inception to satisfy over a period of time greater than one year, paragraph 86 states that the entity should recognize a liability and a corresponding expense if the performance obligation is onerous. Do you agree with the proposed scope of the onerous test? If not, what alternative scope do you recommend and why?
According to paragraph 86 and 87, a performance obligation is onerous if the lowest cost of settling the performance obligation exceeds the amount of the transaction price allocated to that performance obligation. The lowest cost of settling the performance obligation is the lower of a) the costs that relate directly to satisfying the performance obligation by transferring the promised goods and services, and b) the amounts that the entity would be permitted to pay to exit the performance obligation. An entity should initially recognize an onerous performance obligation as a liability and update the measurement of the liability for this onerous performance obligation for changes in circumstances at each reporting date. The onerous test acts as an application of accounting conservatism in revenue recognition, which requires recognizing all probable losses as they are discovered and deferring revenue until it is verified.
As providing users with important information by, in effect, remeasuring performance obligations to reflect significant adverse changes in circumstances on a timely basis, the onerous test increases the relevance because the estimated loss on performance obligation is recognized early on the financial statement. However, the financial statement information may not fully faithfully represent what it is intended to present, which implies that onerous test decreases reliability.
Firstly, the early loss the onerous test