Question

Describe how each of the following events would be treated on the balance sheet [i.e., recorded in a journal entry, disclosed in footnotes to the balance sheet, or ignored].

1. The company is sued by a competitor for infringement on its patent. The court has yet to render an opinion. Your attorney believes your company will lose, and have to pay perhaps $45,000.

2. The company is sued by a former employee for $55,000 for age discrimination. The case, also, is still in court but your attorney believes the case is without merit and your company will win.

Answer 1

Contingent liability has to be provided for in books if 2 conditions are met

1. The liability is likely to occur
2. The amount can be reasonably estimated

Based on above

1. The liability has to be provided for in the books since liability is likely to occur as attorney believes company will lose the case and amount is estimated. So record journal entry and show liability in Balance Sheet.
2. The liability is not likely to occur since case is without merit. Hence liability need not be provided for in Balance sheet via journal entry. This need not be disclosed in footnote since likelihood of liability occurring is remote.