UOPX ACC 306 - Ethics Case 14–8 - Hunt Manufacturing
Course Acc 306-
Pages 2

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Ethics Case 14–8 - Hunt Manufacturing - Debt for equity swaps; have your cake and eat it too ● LO5The cloudy afternoon mirrored the mood of the conference of division managers. Claude Meyer, assistant to the controller for Hunt Manufacturing, wore one of the gloomy faces that were just emerging from the conference room. “Wow, I knew it was bad, but not that bad,” Claude thought to himself. “I don’t look forward to sharing those numbers with shareholders.”The numbers he discussed with himself were fourth quarter losses which more than offset the profits of the first three quarters. Everyone had known for some time that poor sales forecasts and production delays had wreaked havoc on the bottom line, but most were caught off guard by the severity of damage.Later that night he sat alone in his office, scanning and rescanning the preliminary financial statements on his computer monitor. Suddenly his mood brightened. “This may work,” he said aloud, though no onecould hear. Fifteen minutes later he congratulated himself, “Yes!”The next day he eagerly explained his plan to Susan Barr, controller of Hunt for the last six years. The plan involved $300 million in convertible bonds issued three years earlier.Meyer: By swapping stock for the bonds, we can eliminate a substantial liability from the balance sheet, wipe out most of our interest expense, and reduce our loss. In fact, the book value of the bonds issignificantly more than the market value of the stock we’d issue. I think we can produce a profit. Barr: But Claude, our bondholders are not inclined to convert the bondsMeyer: Right. But, the bonds are callable. As of this year, we can call the bonds at a call premium of 1%. Given the choice of accepting that redemption price or converting to stock, they’ll all convert. We won’t have to pay a cent. And, since no cash will be paid, we won’t pay taxes either.Required:Do you perceive an ethical dilemma? What would be the impact of following up on Claude’s plan? Who would benefit? Who would be injured?Ethics Case 14-8Yes, the ethical dilemma is, Hunt Manufacturing is attempting to cover uptheir poor fiscal performance by entering into these transactions withoutthe considerations of economic reasoning. They are playing with thecompany’s numbers in attempt to fool their Shareholders, potentialShareholders, and creditors. Thus, making their company look moreprofitable and stable then it really is.They are making their company look better by calling in their Bonds knowingthat the current Bondholders will not want the 1% callable redemptionprice thereby choosing the convertible stock option. The company managers stand to benefit by the higher profits, no out of pocketexpense for the conversion, and zero tax liability. Also; by playing with thebottom line; Meyer, Barr, managers, employees, and Hunt’s auditors allstand to gain by making the company look financially sound. However, the real losers in this scenario are the Bondholders, Shareholders,Potential shareholders, and creditors. Because they are being misled intothinking that the company is doing better than it really is. They are beingwillfully

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UOPX ACC 306 - Ethics Case 14–8 - Hunt Manufacturing

Course: Acc 306-
Pages: 2
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