Example: Provision for Litigation Loss Former employees of Dreams Unlimited Inc. led a lawsuit against the com pany in Year 1 for alleged age discrimination. At December 31, Year 1, external legal counsel provided an opinion that it was 60 percent probable that the com- pany would be,ound liabl , which would resu in a total payment to the for- mer employees between $1,000,000 and $1,500,000, with all amounts in that range being equally likely. """"_ _' Because it is \"more likely than not" that an outow of resources (cash) will be required as a result of the lawsuit and an amount can be reasonably estimated, Dreams Unlimited should recognize a provision. Because all amounts in the esti- mated range of loss are equally likely, the amount recognized would be the mid point of the range, $1,250,000 [($1,000,000 + $1,500,000)/ 2]. Therefore, Dreams Unlimited would prt'efare-thelalB-meer 31, Year 1 to recognize a provision: Litigation Loss ..................................................... $1,250,000 Provision for Litigation Loss .............................................. $1,250,000 Note that under U.S. GAAPE a provision probably would not be recogized because the 1 e 00 ring a oss Is 0 ercent. a provision were recognized under US. GAAP, it would be or '1,0| |,000 the low end of the range. _ In Year 2, Dreams Unlimited settled with the former employees, making a total payment of'ElJOOOE! As a result, the company would prepare the following journal entry: Provision for Litigation Loss ........................................... $1,250,000 Cash .............................................................. $1,100,000 Reversal of Litigation Loss ................................................. 150,000