Contingent Asset Meaning
A contingent asset is a possible asset of the company that may arise in the future based on the happening or non-happening of any contingent event which is beyond the control of the company and will be recorded in the balance only if it becomes certain that the economic benefit will flow to the company.
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It is the potential economic benefit that may arise to a company or enterprise based on an occurrence of uncertain future events. The Company does not have any control over the occurrence of such future events. It is a possible gain to an Enterprise whose occurrence depends on an uncertain future event. The amount of economic benefits is uncertain.
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Contingent Asset Explained
A contingent asset refers to that type of benefit that the organization may receive but it depend on the happening or not happening of an event, hence the word contingent. The organization is not sure whether it will receive it and therefore does not record it in the financial statement directly, but only in the footnotes.
- It is a possible gain to an Enterprise whose occurrence depends on an uncertain future event.
- The amount of economic benefits is uncertain in case of contingent asset recognition.
- These assets are not recognized and disclosed in financial statements, unlike contingent liability, which is disclosed in a financial statement by taking notes to account.
- It is generally disclosed in the director’s statement.
- When there is a certainty of realizing such an Asset, it no longer remains a Contingent Asset. It becomes an actual asset recognized and represented in the Balance Sheet.
Certain cases that can be considered to be such assets include any kind of lawsuit that the organization may have filed against any client or any other party. In such situations, usually, the organization receives a certain amount of funds as compensation for any loss that it had to bear due to the party against whom it has filed the complaint. This fund is a contingent asset since it is dependent on the outcome of the case.
In similar ways, Contingent Liability is the potential liability that may arise to an enterprise based on an occurrence of uncertain future events not in the control of the Company/Enterprise. Contingent Liability is reported in the company’s annual report by notes to accounts or specific sections dedicated to Contingent Liability. However, Contingent Asset does not form part of the Company’s Annual Report unless it becomes certain.
Due to this characteristics, contingent asset recognition it is very different from any asset that are recognized because they are already confirmed and can be accurately and reliably measured, like cash, inventory, or any tangible property.
Let us understand the concept of recognition of contingent asset with the help of some suitable examples.
A Roads and Highway Developer Cost Overrun Litigation Against Roads and Highway Authority
A Roads and Highway developer (‘Developer’) filling a cost overrun litigation against Roads and Highway Authority (‘Authority’) for reimbursement of cost overrun incurred by the Developer on account of delay in handing over the land by Authority to Developer for construction of the Project;
As per the contract between the Developer and Authority, land acquisition for the project was supposed to be carried out by the Authority and handed over to the Developer in a definite time frame. Since the Authority could not hand over the required land to the Developer for the development of the Project as per schedules in the contract leading to an increase in overall project cost, the Developer filed litigation against the Authority for reimbursement of incremental cost incurred by the Developer.
Below is the table for demonstration purpose-
|Estimated Project Cost as per Contract = A
|Actual Completed Project Cost = B
|Cost Overrun due to delay in land handover = A-B
Note – This is based on the assumption that the entire cost overrunEntire Cost OverrunCost overrun, also known as budget overrun, is a scenario in which the cost of a project or business tends to rise above what was budgeted for. This can be due to improper budgeting or underestimating of the actual cost owing to unforeseen scenarios that were not factored into the budgeting process. was on account of delay in handing over of land to Developer by the Authority.
In the above demonstration, the Developer has filed litigation against the Authority for reimbursement of $ 50 million, which is the incremental costThe Incremental CostIncremental costs are the additional costs associated with the production of one additional unit, and it only considers costs that are likely to change as a result of a specific decision, such as replacing machinery or equipment or adding a new product, and so on. incurred due to delay on the part of Authority. Therefore, Contingent Asset, in this case, is $ 50 million. This asset shall not be recognized in Developer’s Audited ReportAudited ReportAn audit report is a document prepared by an external auditor at the end of the auditing process that consolidates all of his findings and observations about a company's financial statements. unless there is a certainty for reimbursement of cost overrun amount from the Authority.
Once this litigation is awarded to the Developer by the relevant Authority, this will become an Asset, which will be recognized in the Developer’s Balance Sheet.
The possibility of Gaining from a Lawsuit Against a Company for Patent Infringement
Another example is the possibility of gain to an enterprise from a lawsuit for patent infringement against another enterprise. In this case, an enterprise’s lawsuit for patent infringement is Contingent Asset for the Enterprise. However, it is a Contingent Liability for the Company at receiving the end of the lawsuit/responder to the lawsuit. Historically patent infringement lawsuits are quite common in some industries such as Pharma, Technology, etc.
Accounting Treatment for Contingent Asset (IFRS)
Accounting treatment of Contingent Assets, Contingent Liabilities, and Provisions is governed by International Accounting Standard 37 (IAS 37), part of IFRS adopted by the International Accounting Standard Board.
According to IAS 37, Contingent assets are not recognized, but they are disclosed when it is more likely that an inflow of benefits will occur. However, when the inflow of benefits is virtually certain, an asset is recognized in the statement of financial positionStatement Of Financial PositionStatement of Financial Position represents the current financial status of an entity in terms of assets and liabilities. This statement is used by the stakeholders and shareholders as it affects their investing decisions. because that asset is no longer considered to be contingent.
|Probability of Occurrence
|Accounting for Contingent Asset
|Disclosure need in Notes
|No Disclosure Required
Contingent Asset Vs Contingent Liability
Both the above cases are related to events that may or may not happen for the organization, providing an uncertain situation. Therefore, it is necessary to be able to differentiate between them and understand when they may occur so that reading and understanding the financial statements become more useful and easier.
- The recognition of contingent asset refers to asset or something which will add value to the current valuation and provide economic benefit to the business. But the latter refers to liability that will be a financial obligation for the company which it has to fulfill with a certain period of time.
- The former refers to asset arising due to confirmation of some event whereas the latter refers to a liability that arise due to confirmation of an event.
- Both the amount can be recorded in the financial statement as a footnote, but assets are never recorded in the financial statement balance sheet even though they can be reliably measured but liability can be recorded in the balance sheet if the organization can accurately and reliably measure the value.
- The former is a future gain whereas the latter is a future loss for the company.
Therefore, the above are some important differences between the two financial concepts. It is widely looked in to by analysts, investors and management in order to make important financial and investment decisions, making it important to understand them clearly.
This article has been a guide to Contingent Assets and their meaning. Here we discuss how the accounting of Contingent Asset is done along with practical examples. You can also go through our other suggested articles –