A suit for breach of contract seeking damages of $3,000,000 was filed against Clark Corporation on March 1, 2017. Clark's legal counsel believes that a negative outcome is highly probable. A reasonable estimate of the court's award to the plaintiff is $600,000. Settlement is expected to occur during the latter part of 2017. What accounting is necessary for the year ending June 30, 2017?
A)Note disclosure only
B)Accrue a contingent liability of $3,000,000 and provide note disclosure explaining the contingency
C)Accrue a contingent liability of $600,000 and provide note disclosure explaining the contingency
D)No disclosure or accrual necessary

Question

Quizplus · Accepted Answer

According to accounting principles, a contingent liability should be recorded in the financial statements if it is probable that a liability has been incurred and the amount can be reasonably estimated. In this case, since the legal counsel believes a negative outcome is highly probable and the estimated loss is $600,000, the company should accrue a contingent liability of $600,000 and provide note disclosure explaining the contingency.

A Suit for Breach of Contract Seeking Damages of $3,000,000