Question

Hayne Co. filed suit against Hillsborough, Inc., seeking damages for copyright violations. Hillsborough's legal counsel believes it is probable that Hillsborough will settle the lawsuit for an estimated amount in the range of $100,000 to $200,000, with all amounts in the range considered equally likely. How should Hillsborough report this litigation?
A. As a liability for $150,000 with disclosure of the range
B. As a liability for $100,000 with disclosure of the range
C. As a liability for $200,000 with disclosure of the range
D. As a disclosure only. No liability is reported

Answer 1

Answer:

D) As a disclosure only. No liability is reported

Explanation:

US GAAP requires that probable contingent liabilities (like lawsuits) are disclosed in the footnotes of the financial statements. If it is probable that the liability will exist, in this case that Hillsborough will lose the case, then they must record the contingent liability at its most reasonable amount. If the amount cannot be estimated, then they must record it at its lowest amount. The key word is "probable", since it must be likely that the event occurs in order for it to be recorded in the footnotes.