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Survey of Accounting (Accounting I)

8th Edition
Carl Warren
ISBN: 9781305961883

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Survey of Accounting (Accounting I)

8th Edition
Carl Warren
ISBN: 9781305961883
Textbook Problem

Contingent liabilities
Several months ago. Cinnabar Chemical Company experienced a hazardous materials spill at one of its plants. As a result, the Environmental Protection Agency (EPA) fined the company $1,000,000. The company is contesting the fine. In addition, an employee is seeking $150,000 damages related to injuries sustained while cleaning up the spill. Lastly. a homeowner has sued the company for $100,000. The homeowner lives 6 miles from die plant but believes that die incident has reduced the home's resale value by $100,000.
Cinnabar's legal counsel believes that it is probable diat the EPA fine will stand. In addition, counsel indicates that an out-of-court settlement of $75,000 has recently been reached with the employee. The final papers will be signed next week. Counsel believes diat die homeowner's case is much weaker and will be decided in favor of Cinnabar. Other litigation related to the spill is possible, but the damage amounts are uncertain.
a.Illustrate the effects of the contingent liabilities associated with the hazardous materials spill on the accounts and financial statements.
b. Prepare a note disclosure relating to this incident.

To determine

(a)

Concept introduction:

Contingent Liabilities

Liabilities which depends on the occurrence of any event in the future due to happening of any event in past are known as contingent liabilities. An example of contingent liability is the pending lawsuit against company, which if goes against, can damage the company.

The effect of the contingent liabilities associated with material spill on the accounts and financial statements.

Explanation

  (Amount in $)

    Balance Sheet
    Assets  =LiabilitiesStockholder's Equity
    ParticularsCash  =EPA fines payableMaterial spill claim payableCommon StockRetained Earnings
    EPA fine and material spill claim  1,000,
To determine

(b)

Contingent Liabilities

Liabilities which depends on the occurrence of any event in the future due to happening of any event in past are known as contingent liabilities. An example of contingent liability is the pending lawsuit against company, which if goes against, can damage the company.

To prepare:

A disclosure in notes of financial statements.

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