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CASE 1-1 Analysis of Contingent Obligation: Bristol-Myers Squibb Required: The firm did not record a liability for the breast implant litigation for...
CASE 1-1Analysis of Contingent Obligation: Bristol-Myers SquibbRequired:1. The firm did not record a liability for the breast implant litigation for the year ended December31, 1992. Discuss the usefulness of the footnote disclosure in 1992.2. The firm recorded a special charge and related liability in the fourth quarters of 1993,1994, 1995, and 1998. The 1993 charge was offset by $1.0 billion of expected insuranceproceeds; the 1998 charge was offset by $100 million of expected insurance recovery.The firm engaged in litigation with some of its insurers regarding the extent ofinsurance coverage for these losses. Describe the impact of this offset on the incomestatement and the balance sheet.3. Estimate the actual cash inflows and outflows related to this litigation for the years 1993through 2000, using the income statement and balance sheet information provided.4. Restate reported earnings for the years 1993 through 2000 assuming that Bristol-Myershad recorded an expense for each year equal to the (net of insurance recovery) cash outflowfor that year. [Use a marginal tax rate of 35% for each year.]5. Discuss the effect of the restatement in part 4 on the level and trend of BMY earningsover the 1992 to 2000 time period.6. Discuss the effect of the restatement in part 4 on Bristol-Myers’ reported return on equity(ROE) for the years 1993 through 2000. [Hint: consider the effect of the restatement onstockholders’ equity as well as income.]7. Based on information available at December 31, 2000, describe how to compute thecharge that Bristol-Myers should have recorded in December 31, 1992. Describe the impactof that charge on BMY earnings and ROE in 1992 and subsequent years.8. Based on your answers to parts 1 through 7, discuss the advantages and disadvantages tothe company of recording expense equal to(i) The actual cash flows estimated in part 3(ii) The charge described in part 7rather than the special charges actually recorded.
