Appropriate Accounting Case Examples

Accounting for Contingencies

Below is a brief overview of my initial thoughts on how Western should account for the four contingencies in question. Note: the original questions are at the bottom.

a) The appropriate treatment for this case is to indicate the potential for loss in a disclosure note only. This is because the strikes occurred after the close of the 2013 financial year but before the reporting of the 2013 financial statement. It's also noted that the likelihood of incurring material costs is probable but can't be estimated at the present time.

b) The not inconsiderable sum of $23 million should be recorded in notes to the financial statements. This circumstance refers to a gain contingency. However, although A.J. Conner has been ordered to partially repay Western for fees and expense reimbursements, these won't be recorded until the actual gain has been realized. Thus these contingencies are not accrued. It's also not known whether this gain is material to the firm.

c) The warranty contingency should be accrued. The likelihood that expenditures will be made is probable. The amount of the expenditures can be estimated from previous years. As customers make claims against the warranties the firm's liability can then be reduced. Warranty expense (2% X $2,100 million) equals $426,000. Estimated warranty liability equals $426,000.

d) In this example, loss contingencies are accrued. This is because the categorization of event likelihood is reasonably possible. However, the outcome is not known and won't be in time for the date financial statements are due which is March 15, 2014. This means that any known resolution won't incur in time for the financial statement. However, a liability has been estimated (for $88 million) and should be recorded.

1. During 2013, Western experienced labor disputes at three of its plants. Management hopes an agreement will soon be reached. However negotiations between the Company and the unions have not produced an acceptable settlement and, as a result, strikes are ongoing at these facilities since March 1, 2014. It is virtually certain that material costs will be incurred but the number of possible costs cannot be reasonably ascertained.

2. In accordance with a 2011 contractual agreement with A. J. Conner Company, Western is entitled to $37 million for certain fees and expense reimbursements. These were written off as bad debts in 2012. A. J. Conner has filed for bankruptcy. The bankruptcy court on February 4, 2014, ordered A. J. Conner to pay $23 million immediately upon consummation of a proposed merger with Garner Holding Group

3. Western warrants most products it sells against defects in materials and workmanship for a period of a year. Based on their experience with previous product introductions, warranty costs are expected to approximate 2% of sales. A warranty liability of $39 million was reported at December 31, 2012. Sales of warranted products during 2013 were $2,100 million and actual warranty expenditures were $40 million. Expenditures in excess of the existing liability were debited to warranty expense.

4. Western is involved in a suit filed in January 2014 by Crump Holdings seeking $88 million, as an adjustment to the purchase price in connection with the Company's sale of its textile business in 2013. The suit alleges that the Western misstated the assets and liabilities used to calculate the purchase price for the textile division. Because of the presumed violation of ethics in corporate accounting, legal counsel advises that it is reasonably possible that Western could end up losing an indeterminable amount not expected to have a material adverse effect on the Company's financial position.

Work Cited

Spiceland, J. D., Sepe, J. F., Nelson, M. W., TAN, H. N., Low, B., & Low, K. Y. (2012). Intermediate Accounting, 7th edition. New York, NY: McGraw Hill/Irwin.