Lagan Limited prepares its financial statements to 31 December each year

Lagan Limited prepares its financial statements to 31 December each year. The following issues need to be resolved before the financial statements for the year ended 31 December 2011 can be finalised.

Issue One:

A fire occurred on 12 January 2012 and destroyed Lagan Limited’s factory. The best estimate is that it will cost £12 million to rebuild the premises and replace the machinery and inventory destroyed in the fire. The company is insured but due to unusually high levels of inventory the management of the company believe that it will only be able to recover £11.7 million from the insurance company. Lagan Limited’s profit after tax for the year ended 31 December 2011 is £24.9 million.

Requirement

Advise the directors of Lagan Limited as to the appropriate accounting treatment for Issue One in the financial statements for the year ended 31 December 2011 if:

1. Lagan Limited has located alternative premises that it can rent while re-building work is underway and the directors are confident that the company can be fully operational within three weeks of the fire at the new location;

2. Lagan Limited is able to find alternative premises but it will not be available for at least three months from the date of the fire. Also, due to the highly specialised nature of the machinery used, the manufacturers believe it will be six months before the machinery can be shipped to Lagan Limited’s new location.

Issue Two:

On 1January 2011, legislation dealing with emission levels came into effect. As a result, Lagan Limited was required to fit special filters by 30 September 2011. Due to management changes and cash flow problems, Lagan Limited was unable to install the new filters during 2011. The company expects to start and complete this work during the first half of 2012, at an estimated cost of £2 million. No provision has yet been made in the 2011 financial statements for this or for the fines of £200,000 payable at 31 December 2011 under the legislation. It is estimated that additional fines of £360,000 will become payable before the filters are fitted and operational.

Requirement

Advise the directors of Lagan Limited as to the appropriate accounting treatment for Issue Two in the financial statements for the year ended 31 December 2011.