Question

In November 2019 John Jenkins, a customer of H.N. Heaters Pty Ltd, bought an electric heater which, when used for the first time, apparently malfunctioned and caused a power failure in John’s house. John filed a lawsuit for costs and damages allegedly incurred as a result of the failure of the heater. The amount claimed was $900,000.H.N. Heaters Pty Ltd’s lawyers have advised that the amount claimed is excessive and that the company has a good chance of winning the case. However, the lawyers have also advised that if H.N. Heaters Pty Ltd loses the case, its expected costs and damages would be about $250, 000.

Required

Explain how this may or may not give rise to a contingent liability for H.N. Heaters Pty Ltd. With specific reference to the relevant paragraphs of the appropriate Accounting Standard, explain in your own words how H.N. Heaters Pty Ltd should disclose this event in its financial statements as at 30 June 2020?

Answer 1

The amount claimed was $900,000.H.N. Heaters Pty Ltd’s lawyers have advised that the amount claimed is excessive and that the company has a good chance of winning the case. However, the lawyers have also advised that if H.N. Heaters Pty Ltd loses the case, its expected costs and damages would be about $250, 000.

Since the Company has good chance of winning the case, the expected osts and damages would be about $250, 000 will be considered as Contigent Liability. This is the amount that a company would rationally pay to settle the obligation, or to transfer it to a third party, at the end of the reporting period.

Under both the accounting Standards $250,000 will be considered as below:

IFRS (provision) - $ 250,000

US GAAP - (Contigency loss)- $250,000