Case 13-8 Accounting for a Loss Contingency for a Verdict Overturned on Appeal M
ID: 2448057 • Letter: C
Question
Case 13-8
Accounting for a Loss Contingency for a Verdict Overturned on Appeal
M International (“M”) and W Inc. (“W,” a competitor of M) have been engaged in long- standing litigation over a specific patent infringement matter. Below is a summary timeline of specific events that have taken place related to this matter:
In May 2007, W filed a claim against M for patent infringement.
For the year ended December 31, 2007, management of M determined that a loss for this matter was probable and represented that the estimate of loss was in the range of $15 million to $20 million, with $17 million being the most likely amount of loss within the range.
A jury trial took place in September 2009.
The jury reached a verdict on September 24, 2009, and a judgment was ordered in
favor of W. The judgment required M to pay W $18.5 million.
In November 2009, M filed a Notice of Appeal with the Court of Appeals.
In December 2010, the Court of Appeals issued a ruling in favor of M’s appeal and reversed the lower court’s ruling on the matter. This meant that the Court of Appeals overturned the jury verdict and the $18.5 million judgment against M.
On January 6, 2011, W filed a petition for a re-hearing before the same panel of appellate judges against the reversal of ruling by Court of Appeals.
On February 10, 2011, the appellate judges declined the petition for a re-hearing.
On February 28, 2011, management of M determined this matter was closed upon
discussions with in-house legal counsel.
Required:
For the year-end December 31, 2007, financial statements, what amount should M record as a liability?
For the year-end December 31, 2009, financial statements, should M adjust its liability? If so, what amount should be recorded; and should the amount of the adjustment be considered a 2009 event or a prior period adjustment?
Should M record the reduction of the previously recorded loss contingency in 2010 (upon the Court of Appeals overturning the verdict of the jury) or 2011 (once the appellate judges declined W’s petition for a re-hearing)?
What is the answer in context of the ASC?
Explanation / Answer
As per the international standard IAS 37 - The Contingent liability should be recognized in the statement of financials as follows:
A possible obligation that arises from past events, whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly in the control of the entity; or
A present obligation that arises from past events that is not recognised because it is not probable that an outflow of resources embodying economic benefits will be required to settle the obligation or the amount of the obligation cannot be measured reliably.
Disclosure of M Financial statement:
A) For the year-end December 31, 2007:
M should recognise / record the following amount as contingent liability, because the present obligation arises from the past event of infringement of patent rights.
The Liability is the probable outflow of $17 million.
B) For the year-end December 31, 2009:
M should have to adjust the contingent liability.
The probable outflow of the liability is $18.5 million based on verdict on September 24, 2009, and a judgment was ordered in favour of W
The liability has to be adjusted & it will be increase by $1.5 Million ( $18.5 Million - 17 Millions) from the previous Liability.
The adjustment should be considered as 2009 event, not a prior period adjustment as it is not an error or omission of past event.
C) For the year-end December 31, 2010:
M may continue the contingent liability as W has the right to file the petition for re hearing the case.
D) For the year-end December 31, 2011:
M should record the reduction of the liability since the appellate judges declined the petition for a re-hearing and matter closed.
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