Re: Accounting for a Loss Contingency Verdict Overturned on Appeal
• W Inc and your company have been engaged in litigation over a specific patent infringement matter.
• In May 2007, W filed a claim.
• On December 31 2007, your company determined that a loss in connection to the claim was probable.
• The company estimated a loss between 15 and $20 million USD.
• $17 million USD was named as the most likely amount of loss.
• A jury trial took place on September 2009.
• On September 24 2009 the jury found in favor of W.
• The judgment required your company to pay W $18.5 million USD.
• In November 2009, your company filed an appeal.
• In December ...view middle of the document...
ASC 450-20-30-1 indicates that “when no amount within the range is a better estimate than any other amount…the minimum amount in the range shall be accrued.” Additionally, your company could assume a conservative position and accrue the liability at $20 million. However, M’s management has identified $17 million as the most likely amount of loss. ASC 450-20-30-1 dictates that, “If some amount within a range of loss appears, at the time, to be a better estimate than any other amount within the range, that amount shall be accrued.” Therefore, your company should record a journal entry, for at least $17 million, to properly reflect the liability in the balance sheet.
Sample Journal Entry:
Loss (Expense)…………………………………. 17,000,000
Contingent Liability-Litigation………………… 17,000,000
The nature of the contingency should be properly disclosed in the notes on the financial statements. ASC 450-20- 50-1 indicates that the “terminology used shall be descriptive of the nature of the accrual”. Any additional risk and losses should be included in the notes. ASC 450-20-50-3 states that “disclosure of the contingency shall be made if there is at least a reasonable possibility that a loss or an additional loss may have been incurred…in excess of the amount accrued.” If your company accrues the most likely amount, $17 million, the notes should indicate that an additional three million could be lost as a result of the lawsuit.
Specific Issue 2:
For the year ended December 31, 2009, financial statements, should the company adjust its liability? If so where should the adjustment be reflected?
Adjust Liability Yes or No.
Independently of the appeal your company filed, once the court had issued a verdict, the contingency must be adjusted to reflect the amount awarded in the judgment. ASC 450-20-30-1 states that “if some amount within a range of loss appears at the time to be a better estimate than any other amount within the range, that amount shall be accrued.” The amount the court awarded to W, $18.5 million, is at this time, the most likely amount of loss within the estimated range. Therefore, a journal entry to accrue an additional $1.5 million USD loss contingency must be recorded.
a. Prior period adjustment.
b. Change in estimate (2009 event).
A prior period adjustment is a correction, for an accounting error, on the financial statements of a prior year. ASC 250-10-50-7 states that “when financial statements are restated to correct an error, the entity shall disclose that its previously issued financial statements have been restated, along with a description of the nature of the error. The entity also shall disclose …the...