Question

		3.) During the year, Kingbird was sued by a competitor for a patent violation. The competitor is claiming that Kingbird’s liability is $2,400,000. Kingbird’s attorneys have advised it that it is probable that the court will find for the company’s competitor. The attorneys estimate that the liability under the suit could be as little as $96,000 or as much as $480,000. The attorneys do not believe any amount within this range is a better estimate of Kingbird’s liability than any other amount within the range.    For the question above, if there is a range for the lawsuit, as in the example above, do you still record this as a lawsuit liability (or no entry) ? If so, what would you record and why ?
		4.) Kingbird provides one-year warranties on the laptops it sells. During the year, Kingbird’s laptop sales totaled $96,000,000. Historically, Kingbird’s warranty liability has been one percent of total sales. Kingbird began the year with a warranty liability balance of $770,000. Warranty expenditures during the year were $745,000 for computers sold in prior years and $230,000 for computers sold during the year. These expenditures were recorded as credits to cash and debits to the warranty liability account. Any remaining warranty liability is expected to relate to computers sold during the current year.    I know the estimated warranty liability is $960,000 for the year. I worked out part of the problem ( I think it is right so far, if not please correct me), and then does the 230,000 get debited from the warranty liability in this t chart? Warranty Liability Dr Cr                  Bal beg of year          770,000 Warranty cost incurred from past years transactions          745,000 Bal.                                        25,0000 Estimated Warranty cost        960,000 Bal.         (960,000-25,000) = 935,000

Answer 1

Solution No 3:

As per US GAAP, ASC - 450 for Contingencies, contingent liability will have to be recorded in financial statements only if the below two criterias are applicable"

a. It is probable that liability has incurred. Probable means likely to incur.

b. Amount of liability can be estimated reasonably.

n the given problem, Kingbird's attorneys have advised that it is probable that court will give judgement in favour of competitor, who has sued Kingbird for patent violation. Thus, it is likely that Kingbird will have to bear the suit penalty. Thus, there is a contingent liability, which is likely to incur. And it has to be provided in the financial statements.

Also, there is a range of estimates for the liability which ranges from $96000 to $480000. According to attorneys, there is no better estimate in this range. Thus, the lowest amount can be provided in the financial statements. i.e. $96000.

Solution 4:

The solution which you have done is absolutely correct.

Now, $230000, is the warranty expense related to computers sold in the current year. So it has nothing to do with the warranty liability provision account. It will be debited in warranty expenditure account of current year.

1% of sales value, provision for warranty liability, is the year end provision, over and above current year expenses already incurred. Means, after the financial year in which sales occured, warranty expense related to that financial year is approx 1%of that sales. Thus, in the liability account, we need to maintain the balance equal to 1% of total sales value.