IFRIC agenda decision - Recognising provisions for climate-related commitments

The Committee’s latest agenda decision from April 2024 concerns climate-related commitments. Specifically, the Committee considered whether entities that make public statements, such as that they will be net zero by 2050 or reduce greenhouse gas (GHG) emissions by 50% by 2030, must start recognising a provision in their financial statements for the future costs to enable the entity to achieve its net zero targets.

Fact pattern

In 20X0, Entity A, a manufacturer of household products, publicly states its commitment to:

• Gradually reduce its annual GHG emissions, reducing them by at least 60% of their current level by 20X9, and
• Offset its remaining annual emissions in 20X9 and subsequent years by buying or retiring carbon credits from the carbon market.

Entity A publishes a transition plan to support its commitment whereby it will:

• Gradually modify its manufacturing methods between 20X1 and 20X9 to achieve the 60% reduction in emissions by 20X9
• Invest in more energy-efficient processes
• Buy energy from renewable sources, and
• Replace existing petroleum-based product ingredients and packaging with lower-carbon alternatives.

Requirements for recognising a provision

A provision is only recognised under IAS 37 Provisions, Contingent Liabilities and Contingent Assets when all the following apply:

• The entity has a present obligation (legal or constructive) as a result of a past event
• It is probable that an outflow of resources embodying economic benefits will be required to settle the obligation
• The entity can make a reliable estimate of the amount of the obligation.

Questions put to the Committee

The above fact pattern makes no mention of legal obligations to reduce emissions, so the questions put to the Committee relate to whether Entity A has a constructive obligation because of its public statements, and if so, whether this results in Entity A having to recognise a provision in its 20X0 financial statements. 

Is there a constructive obligation?

The Committee firstly considered whether Entity A’s commitment to reduce or offset its GHG emissions creates a constructive obligation, i.e.

• Whether Entity A has published policies or made a sufficiently specific current statement to other parties that it will accept certain responsibilities, and
• As a result, whether Entity A has created a valid expectation on the part of those other parties that it will discharge those responsibilities.

Committee’s observations and conclusion

Entity A’s statement to reduce or offset its GHG emissions could result in a constructive obligation owed to the public at large. However, whether the statement creates a valid expectation by the public at large that it will fulfil its commitment depends on facts and circumstances, and judgement is required.

Does the constructive obligation meet the IAS 37 recognition criteria for a provision?

The first requirement for recognising a provision is that the entity has a present obligation as a result of a past event. The Committee’s discussions noted that:

• Publication of a policy or statement is not sufficient to give an entity a present obligation as a result of a past event
• There is only a present obligation when the event to which the statement applies has occurred (i.e. GHG emissions in 20X9 and later periods)
• Costs incurred to reduce annual emissions and to buy offsets in 20X9 and later periods are costs incurred to operate in future. For example, the costs of purchasing energy-efficient PPE are only recognised when incurred in future.

Committee’s conclusion

Entity A only has a present obligation as a result of a past event from 20X9 when it emits the greenhouse gases it has committed to offset. For this reason, the Committee concluded that Entity A would not recognise a provision when it first makes the public statement in 20X0. However, from 20X9, assuming Entity A can reliably estimate the obligation amount, it would recognise a provision because, at that point, it will have a present obligation to buy carbon credits to offset its emissions.

Where does the debit go?

The Committee noted that if a provision is recognised in 20X9, the corresponding amount (the debit side) is recognised as an expense. It will only be capitalised if it gives rise to, or forms part of, the cost of, an item that qualifies for recognition as an asset in accordance with IFRS Accounting Standards.

Other accounting implications

The Committee also noted that regardless of whether Entity A recognises a provision, the actions it plans to take to fulfil its commitment could affect the measurement of assets and liabilities in the financial statements, and related disclosures. An example could be equipment impairment relating to less energy-efficient production processes.

Next steps

The Committee concluded that the principles and requirements in IFRS Accounting Standards provide an adequate basis for an entity to determine answers to these questions. As such, the Committee decided not to add a standard-setting project to its work plan.

More information

This discussion is a summary of the Committee’s main discussion points. Please refer to the agenda decision for more information.

Need help?

Many entities are starting to commit to net zero and other climate targets publicly. As noted above, determining the right time to recognise provisions for climate-related commitments is complex and requires the exercise of judgement. Even if it’s too early to recognise a provision, there can be flow-on effects to other areas of your financial statements. Please contact BDO’s IFRS & Corporate Reporting team if you need help.