Accounting & Auditing

The Financial Accounting Standards Board (FASB) has published a proposed Accounting Standards Update (ASU), Disclosure of Certain Loss Contingencies, and seeks public comments by August 20, 2010. The proposed ASU replaces a previous, highly controversial document exposed in 2008 that raised significant concerns about unintended waiver of attorney-client privilege and placing an entity in a position that could prejudice a contingency’s outcome.

Background & Objective

Numerous investors and other financial statement users have indicated the existing loss contingency disclosure requirements do not provide sufficient information soon enough to help evaluate the possible outcomes of a loss contingency. FASB issued the proposed ASU to provide users with information that helps them assess the possible outcomes of a loss contingency before it is settled. Its principal objective is to provide information and insights to assess the nature and potential magnitude of a loss contingency and the timing of a possible settlement. FASB emphasizes the need to provide relevant information throughout the life cycle of a loss contingency, beginning with more general information earlier in the life cycle and evolving into more detailed information later in that cycle. FASB believes the proposed ASU appropriately balances the needs of investors and other users with the practical concerns expressed by commenters about the 2008 document.

Significant Provisions

The proposed ASU:

• Retains all existing recognition and disclosure requirements for loss contingencies
• Prohibits any consideration of possible recoveries from insurance or other parties in assessing the materiality of a loss contingency for recognition and disclosure purposes
• Adds disclosures for asserted litigation contingencies, including the basis for the claim and amount of damages claimed by the plaintiff, basis for the entity’s defense or a statement that the entity has not yet formulated its defense, anticipated timing of next steps in the resolution process, name of the court or agency in which proceedings are pending, date instituted, principal parties to the proceedings, description of factual basis alleged to underlie the proceedings and current status of the contingency
• Adds disclosures for all other more-than-remote loss contingencies, including publicly available quantitative information, such as amount claimed and amount of damages indicated by expert witness testimony, possible loss or range of loss and any amount accrued or statement that such amount cannot be estimated and reasons why, other nonprivileged information relevant to understanding potential magnitude of possible loss and information about possible insurance or other recoveries only if and to the extent it has been provided to or is legally discoverable by the plaintiff or a regulatory agency
• Requires disclosures for remote loss contingencies that make the entity vulnerable to a potential severe impact—remote loss contingencies currently require no disclosure—including publicly available quantitative information, other nonprivileged information relevant to understanding potential magnitude of loss and information about possible insurance or other recoveries, only if and to the extent it has been provided or is discoverable
• Requires disclosure of nature of loss or loss contingency and estimated amount or possible range of loss or statement that it cannot be estimated and reasons for losses or loss contingencies arising after balance sheet date and before the financial statements are issued
• Specifies that publicly held entities present a reconciliation in tabular format by class of recognized (accrued) loss contingencies in each annual and interim period for which they present a balance sheet and an income statement and indicates the individual line items to be presented in the table
• Permits aggregation of disclosures by class or type of loss contingency, if aggregation does not obscure important information
• Provides example disclosures satisfying the ASU requirements

Entities Affected

The proposed ASU applies to all for-profit and not-for-profit entities, though it does not apply to governmental entities. Entities such as contractors and health care providers that routinely have a significant quantity of litigation or claims will be most affected on a continuing basis. However, the impact may be particularly significant for an entity that rarely encounters a loss contingency, thereby lacking the ability to aggregate.

Effective Date

The ASU would be effective for fiscal years ending after December 15, 2010, and interim and annual periods in subsequent fiscal years for publicly held entities. Nonpublic entities would apply the ASU in the first annual period beginning after December 15, 2010, and in interim periods within fiscal years after the first annual period.

Summary

The proposed ASU expands the extent and depth of loss contingency disclosures. Entities and their legal counsel will need to understand and work together to satisfy the ASU’s provisions, while preserving attorney-client privilege and avoiding putting the entity in a disadvantageous resolution position.

Contact your BKD advisor with questions on the proposed ASU and how it might impact you.