Acct 242 Intel Case

3750 WordsMar 10, 201315 Pages
Question 1: At any of these dates, did Intel have a contingent liability as defined by SFAS #5? June 30: Intel has discovered the flaw No contingent liability, no disclosure. According to Intel, a series of tests has showed that an error would occur only once every nine billion random calculations, or every 27,000 years for most users. Therefore, the chance that customers would encounter errors in calculations on their Pentium-driven PCs is slight and the event that customers would request chip replacement is remote. This means that the implementation of a replacement program is not probable, nor is the cost of such a program reasonably estimable because the theoretical participation rate is close to or equal to 0%.…show more content…
This is a very conservative estimate, considering that the costs associated with having a service provider actually replace the chip are estimated to average $400, reflecting the cost to the service provider of an average of $289 plus a profit margin for the service provider. This participation rate also takes into account the fact that only an estimated 5% of users will actually be inconvenienced by their chips’ flaws. Therefore, the participation rate, under this program that only pays for chip replacement, is likely to be even lower than 25%, but, due to the lack of forecasting data available, we feel that this is appropriate given the conservatism principle. Calculation of Intel’s contingent liability: For $50/chip: 6,000,000 chips total*25% participation rate*$50 per chip = $75,000,000 contingent liability In the financial statements, this would be recorded as follows on the 1994 statements: DR Pentium chip replacement expense 75,000,000 CR Provision for chip replacement program 75,000,000 In 1994’s financial statements, this new expense would show up on the income statements as a decrease of EBT by $75 million, leading to a decline in net income. We would probably include this inside of 1994’s cost of sales as a non-recurring item (with an appropriate note disclosure alerting investors to this treatment).

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