In relation to a failed acquisition, a firm of accountants has invoiced ABC Co. for the sum of $300,000. ABC Co. has paid $20,000 in full settlement of the debt and states that this was a reasonable sum for the advice given and is not prepared to pay any further sum. The accountants are pressing for payment of the full amount but on the advice of its solicitors, ABC Co is not going to settle the balance outstanding. Additionally ABC Co is involved in a court case concerning the plagiarism of software. Another games company has accused ABC Co of copying their games software and currently legal opinion seems to indicate that ABC Co will lose the case. Management estimates that the most likely outcome will be a payment of costs and royalties to the third party of $1 million in two years’ time (approximately). The best case scenario is deemed to be a payment of $500,000 in one year’s time and the worst case scenario that of a payment of $2 million in three years’ time. These scenarios are based on the amount of the royalty payment and the potential duration and costs of the court case. Management has estimated that the relative likelihood of the above payments are best case — 30% chance, most likely outcome — 60% chance, and worst case — 10% chance of occurrence. Required: For each of the above situations, determine: (i) whether a provision should be made; (ii) the amount of the provision, if any, in ABC’s balance sheet at 31 December 2020; (Discount rate is 5%)
In relation to a failed acquisition, a firm of accountants has invoiced ABC Co. for the sum of $300,000. ABC Co. has paid $20,000 in full settlement of the debt and states that this was a reasonable sum for the advice given and is not prepared to pay any further sum. The accountants are pressing for payment of the full amount but on the advice of its solicitors, ABC Co is not going to settle the balance outstanding. Additionally ABC Co is involved in a court case concerning the plagiarism of software. Another games company has accused ABC Co of copying their games software and currently legal opinion seems to indicate that ABC Co will lose the case. Management estimates that the most likely outcome will be a payment of costs and royalties to the third party of $1 million in two years’ time (approximately). The best case scenario is deemed to be a payment of $500,000 in one year’s time and the worst case scenario that of a payment of $2 million in three years’ time. These scenarios are based on the amount of the royalty payment and the potential duration and costs of the court case. Management has estimated that the relative likelihood of the above payments are best case — 30% chance, most likely outcome — 60% chance, and worst case — 10% chance of occurrence. Required: For each of the above situations, determine: (i) whether a provision should be made; (ii) the amount of the provision, if any, in ABC’s balance sheet at 31 December 2020; (Discount rate is 5%)
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