1.47     Query

(a)     Treatment of expenses of previous years in the

profit and loss account.

 While compiling the Profit and Loss Account, we normally provide liabilities for all foreseeable expenditure at the time of finalisation of accounts and the same is accounted for in the year’s Profit & Loss Account.  There is still some expenditure which is incurred in a year though relating to the previous year(s) and for which no liability could be provided in the corresponding year with the best of judgment and information available.  This, it is felt, is usual to all working organisations.  We feel that expenditure relating to prior period should not be shown separately by making an adjustment against the current year’s net profit or loss.  This if done, would not give true and fair view of the profit or loss for the year and also may not be a proper disclosure or income for tax purposes in the relevant years.

 Our Government Auditors feel that the Profit and Loss Account should reflect the profit or loss after adjusting current year’s transactions only, and expenditure in connection with prior periods should be shown separately below the line, as part of appropriation entries.  We do not share this view except in those cases of expenditure of some magnitude or of non-recurring nature which might have material effect on the year’s transactions.  In such an event also, it should suffice if indication thereof is given suitably either against the item or as a footnote to the Profit and Loss Account.

                                                                           Opinion                                          June 12, 1978

The Committee is of the view that only in cases of expenditure of some magnitude or of a non-recurring nature which might have a material effect on the year’s transactions, it is necessary to show such expenditure separately.

The treatment given by the company to the expenditure relating to prior years, as stated in the query, is the correct treatment as the disclosure of prior period expenditure would imply that certain adjustments like managerial remuneration, bonus provision and provision for taxation are also treated likewise which is not the practice usually followed.

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 Query

(b)     Treatment of a future profit/unexecuted rights

 A company is a partner in a Joint Structure Agreement in an Oil Mining Concession which provides for sharing of expenditure and production in the ratio of its equity holding.  The Agreement, among other matters, provides that each party to the agreement has a right to lift its share of oil produced and saved, it being made clear that failure to lift its full share does not entitle any cash settlement vis-à-vis a party of parties who life in excess of its/their share.  The Agreement, however, provides that in case a party under-lifts, it can make up the short lifting from future production at a certain rate over and above its share.

There is no legal liability in the Joint Venture on the part of the party over-lifting to pay for the extra quantity lifted.  The short-lifter will only get oil for oil as per the conditions stipulated in the contract in future years.  This means that the short-lifter has only a right for higher share in the future production.  But, in case, for certain reasons, he decides to leave the Joint Venture, or the Joint Venture is wound up, say because of a fire in the reservoir, no cash benefit will accrue to the short-lifter.  This, in our opinion is a benefit expected from the contract, but not executed or earned and it should be reflected in the Board’s report to the shareholders and not in the Balance Sheet, as provided in note (g) in Schedule VI of the Companies Act.

                                                                                 Opinion                                   June 12, 1978

The essential point of the query is to consider the treatment to be given in the case of short lifting of oil produced in a given year and the right to lift larger supplies of oil in a subsequent year to the extent of the deficit of an earlier year under the agreement referred to in the query.  The Committee is of the opinion that it would be difficult to evaluate in terms of money the right of recoupment in future years and, therefore, the question of reflecting any value thereof in the accounts should not arise.  The Committee also agrees with your view that the transactions of the nature described cannot in any way be reflected either in the accounts of a company or by way of notes on accounts.

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