MEZ Ltd. has ﬁnally concluded its negotiations to take over Norma Ltd., and has secured ownership of all the shares of Norma. One of the areas of discussion during the negotiation process was the current court case that Norma was involved in. The company was being sued by some former employees who were terminated, but are now claiming damages for wrongful dismissal. The company did not believe that it owed these employees anything. However, realizing that industrial relations was an uncertain area, it had recorded a note to the ﬁnancial statements issued before the takeover by MEZ reporting the existence of the court case as a contingent liability. No monetary amount was disclosed, but the company’s lawyers had placed a $56,700 amount on the probable payout to settle the case.
The accounting staff of MEZ is unsure of the effect of this contingent liability on the accounting for the consolidated group after the takeover. Some argue that it is not a liability of the group and so should not be recognized on consolidation, but are willing to accept some form of note disclosure. A further concern being raised is the effects on the ﬁnancial statements, depending on whether Norma wins or loses the case. If Norma wins the court case, it will not have to pay out any damages and could get reimbursement of its court costs, estimated to be around $40,000.
Give the group accountant your opinion on the accounting at the acquisition date for consolidation purposes, as well as any subsequent effects when the entity either wins or loses the case.