Question

Question #1: Some car companies currently face numerous lawsuits due to reported cases of failed brakes, which could negatively impact image of those companies. Such lawsuits are prime examples of contingent losses because the loss is contingent upon an adverse settlement or verdict in the case. The litigation loss contingency should be accrued if a loss is probable and can be estimated. Probable and estimable are difficult concepts that offer managers a fair degree of discretion.

1. List two reasons why the managers in this case might resist quantification and accrual of a loss liability.
2. In 1-2 paragraphs, describe a circumstance when managers might be willing to accrue a contingent loss that they had earlier resisted accruing.

Answer 1

1.The two reasons why the managers in this case might resist quantification and accrual of a loss liability are:

(a) Given the scenario, the managers may determine that there is no reliable method to estimate potential losses. It is difficult to decide on how much these incidents will negatively impact the image of those companies if not impossible to estimate.

(b) Managers may determine that losses in this case are not likely and therefore not needed to be accrued. If failures of brakes are due to improper maintenance versus improper manufacturing, managers of these car companies may determine that the likelihood of courts ruling against them is very low.

2. A manager might initially resist to accrue a contingent loss because they initially believe the likelihood of an adverse settlement due to the lawsuits is low. This viewpoint may change if the company is ruled against in the first lawsuit. In this situation, there would still be several lawsuits that are ongoing but given the initial lawsuit settlements managers might determine that the likelihood of an adverse settlement is probable now.