Harrington Company was sued by an employee in late 2017. General counsel conclud
ID: 2595961 • Letter: H
Question
Harrington Company was sued by an employee in late 2017. General counsel concluded that there was an 80 percent probability that the company would lose the lawsuit. The range of possible loss is estimated to be $20,000 to $70,000, with no amount in the range more likely than any other. The lawsuit was settled in 2018, with Harrington making a payment of $60,000.
Assume that a U.S.–based company is issuing securities to foreign investors who require financial statements prepared in accordance with IFRS. Thus, adjustments to convert from U.S. GAAP to IFRS must be made. Ignore income taxes.
Required:
A) Prepare journal entries for this lawsuit for the years ending December 31, 2017, and December 31, 2018, under (1) U.S. GAAP and (2) IFRS.
B) Prepare the entry(ies) that Harrington would make on the December 31, 2017, and December 31, 2018, conversion worksheets to convert U.S. GAAP balances to IFRS.
Prepare journal entries for this lawsuit for the years ending December 31, 2017, and December 31, 2018, under (1) U.S. GAAP and (2) IFRS. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field.)
Explanation / Answer
The transaction is required to be recognized as a contingent loss that is not recognized as a liability as per US GAAP and the same need to be recognized as a contingent liability and provision need to be made as per IFRS.
US GAAP requires to recognize a contingent loss requires liability when it is known before the end of the financial year that there will be a probable outflow based on one or more future events and the amount of loss can be reasonably estimated and the word "probable" has been defined to mean "which is a higher threshold than "more likely than not" . In the present case as both the conditions are satisfied, however as the probability of loosing is only 75% which is not more than higher threshold, the same need to recognized as a contingent loss that is not recognized as a liability as per ASC 450.
IFRS requires to create a provision or contingent liability in the books of accounts when there is an information about probable outflow that needs to be made based on an outcome of future events. The word probable has been defined to mean "as more likely than not" (i.e 50:50). As in the present case, the probability of losing the case is 75% which is higher than not happening of an event, the transaction need to be recognized as contingent liabality and provision need to be made to the extent of the minimum amount of expected outflow as per IAS 37.
Journal entries in the books of Harrington for the year-end 31/12/2017:-
US GAPP:
Need to be recognized as a contingent loss in footnotes to the books of accounts.
IFRS:
Profit and loss account Dr. 20,000
TO provision for law suite 20,000
At the end of 31/12/2018:
US GAAP
Profit and Loss account Dr. 60,000
To expenses towards lawsuit 60,000
Expenses towards lawsuit Dr. 60,000
To bank 60,000
IFRS:-
Profit and Loss account Dr. 41,000
To expenses towards lawsuit 41,000
Provision for Lawsuit Dr. 27,000
Expenses towards lawsuit Dr. 41,000
TO bank account 68,000
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