Prudence concept
The prudence concept requires that assets and income are not overstated, and liabilities and expenses are not understated, when there is uncertainty. Probable losses are recognised immediately; gains only once virtually certain.
See it move
A comparison contrasts how prudence treats a probable loss against a probable gain. A wholesaler expects €6,000, 5% of its €120,000 receivables, to go uncollected, and recognises that as an expense immediately. It also holds a €15,000 legal claim rated a 70% chance of success, but since that gain is only probable, not certain, none of it is recognised — only disclosed as a contingent asset.
Check yourself
At year end, a company has trade receivables of €120,000, of which it expects 5% to become uncollectible based on past experience. It also holds a separate legal claim against a supplier for €15,000, which its lawyers believe has a 70% chance of success. Applying the prudence concept, which treatment is correct?