Question

Provide enteries for the following preparing Fallon Company financial statements December 31, 2016

A customer is suing the company for $800,00 in damages bc her child was injured in November 2016 while riding an escalator that stopped suddenly in one of its stores. Legal counsel feels that the child id partially at fault, but it is probable that the lawsuit will be settled for between $50,000 and $100,000, with $80,000 being the most likely amount

Fallon has discovered that a skateboard it manufactured and sold in 2016 has a defective bearings. It estimates a cost od $200,000 for these repairs. No lawsuits have been filed for injury claims, although the company feels that there is a reasonable possibility that claims may total as high as $2 million

Fallon has an incinerator behind one of its retail outlets which is used to burn cardboard boxes received in shipments of inventory from suppliers. The state environmental protection agency filed suit against the company in August 2016 for air pollution. Fallon expects to stop using the incinerator and begin recycling. However, its lawyers believe that it is probable that a fine of between $40,000 and $60,000 will be levied against the company, altbough they cannot predict the exact amount.

In early 2016, Fallon signed a contract with a computer vendor to install “state of the art” cash registers in all of its retail outlets. Because of the vendor’s inabliltiy to acquire sufficient cash registers, the vendor canceled the contract. Fallon has filed a breach of contract suit against the vendor, claiming $300,000 in damages. The company’s lawyers expect that it will settle the suit “out of court” for $150,000.

Required: For each situation, prepare the journal entry (if any) on December 31, 2016, to record the info for Fallon, and explain your reasoning. If no journal entry is recorded, explain how the information would be disclosed in Fallon’s 2016 annual report.

How would your answers change if Fallon used IFRS?

Answer 1

The above question is answered with adherence to IFRS, specifically IAS 37.

A provision is "a liability of uncertain timing or amount"..A contingent liability is one which may or may not arise as per depending of some future event or occurence.

As per IAS 37, A provision to contingent liability can be recognized only when all of the following conditions are met.

1)A past event as given rise to a present obligation.

2)It is more likely than not that a outflow of resources will be required to set off such liability.

3)Amount can reliably estimated.

Case A) A present obligation is arising due to a past event - On basis of available facts and evidence, there is a present obligation.

Probable- It is explicitly mentioned in the question that an outflow of resources is likely , and amount can be reliably estimated.

Journal entry

Transaction	General Journal	Debit ($)	Credit($)
1.	Lawsuit(or Legal)Expenses A/c                     DR.	80,000
	To Provision for Lawsuit (or Legal)Exp.		80,000
	(Being an entry recording Provision for Legal Claim passed.)

Case B)

A present obligation is arising due to a past event - On basis of available facts and evidence, there is no present obligation.

-no journal entry-

A note in the notes to accounts may be given stating the facts of the case and estimated cost of repairs .

Case C)

Case A) A present obligation is arising due to a past event - On basis of available facts and evidence, there is a present obligation.

Probable- It is explicitly mentioned in the question that an outflow of resources is likely , and amount can be reliably estimated between $40K to $60K . Please note in case of US GAAP minimum estimated liability is recognized that is to say low end of the range($40K in this case.).However in IFRS mid point is taken as estimated liability.

Journal entry

Transaction	General Journal	Debit ($)	Credit($)
1.	Lawsuit(or Legal)Expenses A/c                     DR.	50,000
	To Provision for Lawsuit (or Legal)Exp.		50,000
	(Being an entry recording Provision for Legal Claim passed.)