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Accounting for loss contingency related to legal settlement where settlement is a sales credit.

We are considering settling a legal case regarding a defective product by either 1) offering a sales credit to the customer to apply against future sales or 2) offering a free piece of equipment. Assuming we meet the FAS 5 criteria for recognition, what amount do I book as my legal reserve? Is it the amount we would sell the equipment at, let's say that would be $300? Or is it at the amount it would cost us to manufacture the equipment, $200? I suspect the answer differs for each scenario but any insight would be much appreciated.

Answers

Mark Koch
Title: Controller
Company: Turtle Beach
LinkedIn Profile
(Controller, Turtle Beach) |

Would think that in case 1) the amount of sale credit would define the liability. In case 2) would believe that the cost to manufacture would be the appropriate measure. Think that putting up the selling price of the equipment would be anticipating a gain contingency which would essentially be the anticipated profits on the sale. That being said if you could settle the claim with the equipment, it sounds like a better deal cash flow wise, because some of the $200 cost to manufacture is probably absorbing overhead you would incur anyway.

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