Accounting treatment for contingencies Analyze the following independent situati
ID: 2460364 • Letter: A
Question
Accounting treatment for contingencies Analyze the following independent situations
a. McKinney Inc. is being sued by a former employee. McKinney believes that there is a remote chance that the employer will win. The employee is suing McKinney for damages of $1,000 b. Reeves Oil Refinery had a gas explosion on one of its oil rigs, reeves believes it is likely that it will have to pay environmental clean-up costs and damages in the future due to the gas explosion. Reeves cannot estimate the amount of the damages.
c. Love Enterprise estimates that it will have to pay $20,000 in warranty repairs next year.
Determine how each contingency should be treated.
Explanation / Answer
a) Remote chance of employee winning the suit against McKinney Inc. As the possibility of the above contingency occuring is low, the amount does not have to be recorded or disclosed in the financial statements b) Reeves cannot estimate the damages Since the amount caanot be determined, the contingency needs to be disclosed as a contingent liability in the notes of the financial statements c) Estimate of warranty repairs This amount of $ 20000 is to be reported as provision of warranty expenses in the financial statements and is to be charged to the Income statement