Western Manufacturing is involved with several potential contingent liabilities. Your assignment is to draft the appropriate accounting treatment for each situation described below. Western’s fiscal year-end is December 31, 2021, and the financial statements will be issued in early February 2022.

a. During 2021, Western experienced labor disputes at three of its plants. Management hopes an agreement will soon be reached. However, negotiations between the company and the unions have not produced an acceptable settlement, and employee strikes are currently under way. It is virtually certain that material costs will be incurred, but the amount of possible costs cannot be reasonably estimated.

b. Western warrants most products it sells against defects in materials and workmanship for a period of a year. Based on its experience with previous product introductions, warranty costs are expected to approximate 2% of sales. A new product introduced in 2021 had sales of $2 million, and actual warranty expenditures incurred so far on the product are $25,000. The only entry made so far relating to warranties on this new product was to debit Warranty Expense $25,000 and credit Cash $25,000.

c. Western is involved in a suit filed in January 2022 by Crump Holdings seeking $88 million, as an adjustment to the purchase price in connection with the company’s sale of its textile business in 2021. The suit alleges that Western misstated the assets and liabilities used to calculate the purchase price for the textile division. Legal counsel advises that it is reasonably possible that Western could lose up to $88 million.

 

Required:

In a memo, describe the appropriate means of reporting each situation and explain your reasoning.