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In 2013, Slim Drug Company began to notice problems with its obesity drug. The company stopped...

In 2013, Slim Drug Company began to notice problems with its obesity drug. The company stopped selling the drug near the end of 2013. In the last six months of 2014, the company was sued by 1,000 people who had an allergic reaction to the company’s obesity drug. At the end of 2014, the company’s lawyers believe there is a 60% chance the company will need to make payments in the range of $1,000 to $5,000 to settle each claim. At the end of 2015 while none of the cases have been resolved, the company’s lawyers now believe there is an 80% chance the company will need to make payments in the range of $2,000 to $7,000 to settle each claim. In 2016, 400 claims were settled at a total cost of $1.2 million. Based on this experience, the company believes 30% of the remaining cases will be settled for $3,000 each, 50% will be settled for $5,000 and 20% will be settled for $10,000 each.

Required: Using AASB Standards, show what journal entries would be required in 2013, 2014, 2015 and 2016.

Expert Solution

2013: No entries

2014: The midpoint of the range of $1 000 to $5 000 is $3 000. The midpoint of $3 000 multiplied by 1 000 people making claims equals $3 000 000.

Debit Litigation expense 3 000 000

Credit Legal provision for claims 3 000 000

2015: the midpoint of $4 500 is multiplied by 1 000 people making claims less the $3 000 000 recorded in 2014.

Debit Litigation Expense 1 500 000

Credit Legal provisions for claims 1 500 000

2016:

600 * 30% * 3 000 = 540 000

600 * 50% * 5 000 = 1 500 000

600 * 20% * 10 000 = 1 200 000

Debit Legal Provisions for claims 1 200 000

Credit Cash 1 200 000

Debit Legal provision for claims 60 000

Credit Litigation expense 60 000

Using IFRS (AASB 137), a provision of $3 000 000 was accrued in 2014 and a provision of $1 500 000 was accrued in 2015. Additionally, 1 200 000 of that accrual was spent in 2016, leaving a remaining accrual of $3 300 000. As a result, the accrual would be reduced by $60 000 to get to the needed accrual of $3 240 000. The following entries would be required

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ekkarill92 answered 1 year ago

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