You are the accountant for Fun Times Ltd, an Australian trampoline wholesaler. The directors have just finished reviewing the draft financial reports that you have prepared for the year ended 30 June 2023. They understand the rationale for including a provision for annual leave in the financial reports, but have questioned why a provision for warranties has been included in the financial reports. Given there is only a small chance that each item sold will be returned under warranty, the directors argue that the recognition criteria for provisions is not met. They think that warranties should be classified as a contingent liability. You consider their question and review the requirements contained in the accounting standards before preparing a response.

Required: Prepare a memo to the directors to respond to their question and their suggested treatment of warranties. In your response, advise the directors of the appropriate accounting treatment for warranties. Provide references to specific paragraphs in the accounting standards to support your advice.