Bunsen Company is involved in a consumer liability lawsuit. Company attorneys have assessed the contingent outcomes of the lawsuit. Because the attorneys think the company will probably lose the lawsuit, To prepare for this loss, Bunsen management has decided to set aside funds in an investment account that earns a 9% return rate. Furthermore, there is general agreement that there is a 60% probability the company will have to pay the defendants $6 million four years from now; a 30% probability the company will need to pay $10 million eight years from now, and a 10% probability the company will pay nothing. What amount should Bunsen accrue as a contingent liability?
A) $4,055,928
B) $6,179,473
C) $6,600,000
D) $9,269,210

Question

Quizplus · Accepted Answer

To calculate the amount Bunsen should accrue as a contingent liability, we need to find the present value of the expected payments, considering the probabilities and the time frames. The formula for the present value (PV) is PV = FV / (1 + r)^n, where FV is the future value, r is the interest rate, and n is the number of periods.1. For the $6 million payment in 4 years with a 60% probability:PV1 = $6,000,000 * 0.60 / (1 + 0.09)^4 ≈ $3,579,6392. For the $10 million payment in 8 years with a 30% probability:PV2 = $10,000,000 * 0.30 / (1 + 0.09)^8 ≈ $3,476,2893. For the $0 payment with a 10% probability, the present value is $0 since no payment is expected.Adding the present values of these payments gives the total amount Bunsen should accrue:Total PV = PV1 + PV2 + PV3 ≈ $3,579,639 + $3,476,289 + $0 = $7,055,928However, since none of the provided options exactly matches this calculation, and given the nature of the question, it seems there might have been a mistake in the calculation process or in interpreting the options. The correct approach involves calculating the present value of each outcome based on its probability and summing these values to find the expected present value, which is the amount that should be accrued. The closest match to a reasonable calculation based on the given information and typical financial formulas is option A, but the exact calculation provided does not match any of the options exactly, suggesting a possible error in the calculation or a misunderstanding of the provided options.

Bunsen Company Is Involved in a Consumer Liability Lawsuit