A company is being sued by a customer in respect of some products supplied which the customer claims are faulty. The customer is suing for GH¢220,000 plus damage. Court costs are likely to amount to GH¢40,000. The company’s lawyer has advised that there is an 80% chance that the case will be lost and that the full amount claimed by the customer will become payable against the company.
The company is fully insured and the lawyer has advised that the insurance policy covers the event and should be utilized.
Required:
Determine the amount that should be recognised as a provision and charged to profit or loss and determine the treatment of the insurance claim. (4 marks)
View Solution
Provision is made for probable amount:
GH¢220,000 + GH¢40,000 = GH¢260,000
GH¢260,000 is charged to profit or loss.
The insurance recovery, while disclosed, is not virtually certain (as the court case itself has not been lost) and therefore is disclosed as a contingent asset.
Provision for legal claim/damages charged to Profit or Loss : 3 marks
Disclosure of insurance claim as a contingent asset : 1 mark