Financial Accounting: An Integrated Statements Approach, 2nd Edition

Chapter 10 Liabilities 487

convertible bonds due in 10 years. The bond issue generated proceeds of $275 million dollars,

which the company will use to build a second manufacturing facility on the west coast. Each

$1,000 bond is convertible into 20 shares of common stock, and may be converted at any time

prior to maturity.

1. Were the bonds issued at a premium or a discount?


2. What is the face value, contract rate of interest, and maturity date of the bonds?


3. What are convertible bonds? Why might a company issue convertible bonds rather than
   typical term bonds?


4. At what stock price would it be worthwhile for bond holders to convert the bonds into
   shares of common stock?

A contingent liability note from DuPont Co.’s 2003 financial statements is reproduced below.

The company is also subject to contingencies pursuant to environmental laws and regulations

that in the future may require the company to take further action to correct the effects on the

environment of prior disposal practices or releases of chemical or petroleum substances by the

company or other parties. The company accrues for environmental remediation activities....

At December 31, 2003, the company’s Consolidated Balance Sheet includes a liability of $380

relating to these matters and, in management’s opinion, is appropriate based on existing facts

and circumstances. The average time frame over which the accrued or presently unrecognized

amounts may be paid, based on past history, is estimated to be 15–20 years. Considerable

uncertainty exists with respect to these costs and, under adverse changes in circumstances,

potential liability may range up to two to three times the amount accrued as of December 31,

2003.

On September 10, 2004, The Wall Street Journalreported the following:

In a proposed settlement of a class-action lawsuit that could involve payouts of more than $300

million, DuPont Co. is betting that science is on its side.

The nation’s No. 2 chemical maker yesterday agreed to settle allegations that it contaminated

water supplies with a toxic chemical used to make Teflon, a slippery substance that can be found

in everything from cookware to clothing. It requires the company to pay plaintiffs $85 million,

plus other expenditures, as well as pay attorney’s fees and expenses of $22.6 million.

But its payments could rise by another $235 million depending on whether a $5 million

study the company will fund finds a probable link between exposure to the chemical and any

diseases.

1. How would the $380 million in environmental liabilities be reported on DuPont’s financial
   statements, assuming that $270 million of this amount was estimated to be paid in fiscal
   2004? Provide the journal entry.


2. How would DuPont account for the Teflon settlement payments during 2004, assuming the
   cost was accrued in the prior year? How would this answer differ if the costs had not pre-
   viously been accrued?


3. What are the different ways in which the company could handle the additional $235 mil-
   lion in potential payments related to the environmental study? How would you account for
   these costs?

Summary financial information is provided below for BellSouth Corp., a telecommunications

company, and Belk, Inc., a general department store retailer. The financial information for these

companies is similar to that of most companies in the telephone communications and depart-

ment store industries, respectively.

Case 10-3

Contingent liability disclosure

Case 10-4

Current and quick ratios—
industry comparison