An onerous contract is an agreement in which one party is obligated to do something it knows will not be economically viable for them when the contract is created. The contract must be recognized by a company through a charge to their income statement. This could be due to significant unavoidable costs, a decrease in market price, or increasing costs that weren’t foreseeable when the contract was agreed upon.

For example, a company might enter into a contract for services in which the cost of the service exceeds the market price, resulting in an onerous contract. The onerous contract must be recognized on the income statement as an expense, eliminating any possible profit from the arrangement. Onerous contracts must be measured in the same period that they are recognised.

IFRS requires companies to report on their balance sheets onerous contracts that they are committed to. This includes any potential costs associated with the contract beyond what was initially anticipated. It is important for investors to see these reports because it indicates the company’s potential losses. Companies are required to list all onerous contracts on their balance sheets, with the associated liabilities and potential costs.

Companies would be wise to fully understand the terms of any contract before they enter into it to avoid any potential onerous provisions. It is also beneficial to review any existing contracts regularly in order to identify and take any necessary steps to handle onerous contracts in the most efficient way.

Onerous contracts can have a significant impact on a company’s financials, and it is critical for investors to be aware of these costs in order to make an informed decision about any company’s assets and liabilities. Therefore, it is important for companies to accurately account for and report onerous contracts in order to ensure investors are aware of any potential losses.