5. Ethical Dilemma
Consider the following ethical dilemma:
ETHICAL DILEMMA
You are chief financial officer of Camp Industries. Camp is the defendant in a $44 million
class-action suit. The company’s legal counsel informally advises you that chances are remote
that the company will emerge victorious in the lawsuit. Counsel feels the company will
probably lose $30 million. You recall that a loss contingency should be accrued if a loss is
probable and the amount can reasonably be estimated. A colleague points out that, in practice,
accrual of a loss contingency for unsettled litigation is rare. After all, disclosure that
management feels it is probable that the company will lose a specified dollar amount would be
welcome ammunition for the opposing legal counsel. He suggests that a loss not be recorded
until after the ultimate settlement has been reached. What do you think?
You may wish to discuss this in class. If so, discussion should include these elements.
Step 1 The Facts:
Camp Industries is the defendant in a $44 million class-action suit. Legal counsel believes that
the company will not win the lawsuit and will probably lose $30 million. GAAP mandates that a
loss contingency should be accrued if the loss is probable and the amount reasonably can be
estimated. In an effort not to influence the decision of the court, you, as CFO, are considering
deferring recognition of the loss until after settlement has been reached.
Step 2 The Ethical Issue and the Stakeholders:
The ethical issue or dilemma is whether your obligation to protect company interests in the
lawsuit is greater than your obligation to provide full disclosure of relevant information to users
of the financial statements.
Stakeholders include you as CFO, other company management, employees, current and future
creditors, current and future investors, and members of the class-action suit.
Step 3 Values:
Values include competence, honesty, integrity, objectivity, loyalty to the company, and
responsibility to users of the financial statements.
Step 4Alternatives:
1. Omit the recognition of the probable loss as a contingent liability on the balance sheet.
2. Record the probable loss on the income statement and as a liability on the balance
sheet.
Step 5Evaluation of Alternatives in Terms of Values:
1. Alternative 1 illustrates loyalty to protecting company interests during the trial.
2. Alternative 2 reflects values of competence, honesty, integrity, objectivity, and
responsibility to users of the financial statements.
Step 6Consequences:
Alternative 1
Positive consequences: Opposing legal counsel will not learn about the company’s estimation
of the loss. Positive litigation outcome, though unlikely, will not be hurt.
Negative consequences: Users of the financial statements would not receive full disclosure.
Alternative 2
Positive consequences: Users of the financial statements would become fully informed of the
pending loss. You would maintain your integrity.
Negative consequences: You may incur the disfavor of higher management and legal counsel
and lose your job. The company may lose the lawsuit or be forced to pay a higher settlement due
to the disclosure. The stock price may suffer with negative consequences to investors, creditors,
employees, and their families.
Note: In practice, loss contingencies from unsettled lawsuits rarely, if ever, are accrued. Disclosure
notes typically note the difficulty of predicting court decisions.
Step 7 Decision:
Student(s) must decide their course of action.
Assignment Chart
Learning Est.
time
Questions Objective(s) Topic
(min.)
13–1 1 Essential characteristics of liabilities 5
13–2 1 Distinguish current from long-term liabilities 5
13–3 1 Measurement of current liabilities 5
13–4 2 Line of credit 5
13–5 2 Noninterest-bearing notes 5
13–6 2 Commercial paper 5
13–7 3 Accrued salaries 5
13–8 3 Compensated absences 5
13–9 3 Refundable deposits and customer advances 5
13–10 3 Gift cards 5
13–11 3 Collections for third parties 5
13–12 4 Classification as a noncurrent obligation 5
13–13 4 Classification as a noncurrent obligation 5
13–14 4,7 IFRS; classification as a noncurrent obligation 5
13–15 5 Define a loss contingency 5
13–16 5 Three categories of likelihood 5
13–17 5 Conditions for a loss contingency to be accrued 5
13–18 5,7 IFRS; contingent liability definition 5
13–19 6 Accounting for a loss contingency not accrued 5
13–20 6 Two loss contingencies almost always accrued 5
13–21 6 Manufacturer’s warranty versus extended
warranty
5
13–22 6 Subsequent events 5
13–23 6 Subsequent events 5
13–24 6,7 IFRS; range of equally likely losses 5
13–25 6,7 IFRS; present values 5
13–26 6 Unasserted assessment 5
13–27 6 Gain contingency 5
13–28 6,7 IFRS; gain contingency 5
Brief Learning Est.
time
Exercises Objective(s) Topic
(min.)
13–1 2 Bank loan; accrued interest 5
13–2 2 Noninterest-bearing note; accrued interest 5
13–3 2 Determining accrued interest 5
13–4 2 Commercial paper 5
13–5 2 Noninterest-bearing note; effective interest rate 5
13–6 3 Advance collection 5
13–7 3 Advance collection 5
13–8 3 Sales tax 5
13–9 4 Classifying debt 5
13–10 4 Refinancing debt 5
13–11 4,7 Refinancing debt 5
13–12 5,6 Warranties 5
13–13 5,6 Product recall 5
13–14 5,6 Contingency 5
13–15 5,6 Contingency 5
13–16 5,6 Contingencies 5
13–17 5,6,7 Contingencies 5
13–18 5,6 Unasserted assessment 5
Learning Est.
time
Exercises Objective(s) Topic
(min.)
13–1 2 Bank loan; accrued interest 10
13–2 2 Determining accrued interest in various
situations
15
13–3 2 Short-term notes 20
13–4 3 Paid future absences 10
13–5 3 Paid future absences 10
13–6 3 Customer advances; sales taxes 20
13–7 3 Customer deposits 15
13–8 3 Various transactions involving advance
collections
20
13–9 3 Gift cards 20
13–10 3,4,5 FASB codification research 15
13–11 1,4 Current–noncurrent classification of debt;
Sprint Corporation
10
13–12 1,4,7 Current–noncurrent classification of debt;
Sprint Corporation
15
13–13 1,4 Current–noncurrent classification of debt 15
13–14 5 FASB codification research 15
13–15 5,6 Warranties 15
13–16 5,6 Extended warranties 15
13–17 5,6 Contingency; product recall 15
13–18 5,6 Impairment of accounts receivable 15
13–19 6 Unasserted assessment 15
13–20 5,6 Various transactions involving contingencies 30
13–21 5,6 Various transactions involving contingencies 30
13–22 5,6,7 Various transactions involving contingencies;
IFRS
30
13–23 1,2,3,4,5,6 Disclosures of liabilities 25
13–24 5,6 Warranty expense; change in estimate 15
13–25 3 Change in accounting estimate 10
13–26 5,6 Contingency; Dow Chemical Company
disclosure
15
13–27 A Payroll-related liabilities (based on Appendix) 10
Learning Est.
time
Problems Objective(s) Topic
(min.)
13–1 2 Bank loan; accrued interest 20
13–2 2,3,4 Various transactions involving liabilities 20
13–3 1,4 Current–noncurrent classification of debt 30
13–4 1,2,3,4 Various liabilities 20
13–5 3 Bonus compensation; algebra 25
13–6 5,6 Various contingencies 35
13–7 4,5,6,7 Various liabilities 25
13–8 6 Expected cash flow approach; product recall 25
13–9 6 Subsequent events 25
13–10 4,5 Subsequent events; classification of debt;
loss contingency; financial statement effects
35
13–11 1,2,3,4 Concepts; terminology 15
13–12 4,5 Various liabilities; balance sheet
classification; prepare liability section of
balance sheet; write notes
45
13–13 A Payroll-related liabilities (based on
Appendix)
15
Learning
Est. time
Cases Objective(s) Topic
(min.)
Research Case 13–1 1,2 Bank loan: accrued interest 30
Real World Case 13–2 1,3 Returnable containers; Zoo Doo Compost
Company
15
Research Case 13–3 1 Relationship of liabilities to assets and owners’
equity
20
Judgment Case 13–4
Ethics Case 13–5
3
1
Paid future absences
Outdoors R Us
20
20
Trueblood Case 13–6 5 Contingencies 60
Communication Case 13–7 4 Exceptions to the general classification
guideline; group interaction
40
Communication Case 13–8 5,6 Various contingencies 20
Judgment Case 13–9 5,6 Loss contingency and full disclosure 15
Communication Case 13–10 5,6 Change in loss contingency; write a memo 45
Research Case 13–11 5,6 Researching the way contingencies are
reported; retrieving information from the
Internet
60
Communication Case 13–12 5,6 Accounting changes 45
Real World Case 13–13 5,6 Lawsuit settlement; Morgan Stanley 20
Ethics Case 13–14 5 Profits guaranteed 20
IFRS Case 13–15 4,5,7 Current liabilities and contingencies;
differences between U.S. GAAP and IFRS
45
Analysis Case 13–16 1 Analyzing financial statements; liquidity ratios 25
Trueblood Case 13–17 5,6,7 Accounting for litigation contingencies 20
Real World Case 13–18 5 Contingencies; Microsoft 20
Real World Case 13–19 5 Contingencies; AU Optronics, B
Communications
20
Real World Case 13–20 5,6 Contingencies and subsequent events; J. Crew 20
Trueblood Case 13–21 5 Subsequent events 20
Target Case
Air France–KLM Case
1,3,5
7 IFRS; deferred income, contingencies; Air
France–KLM
30
Star Problems