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Disclosure of litigation contingencies faulted.

Publicly traded companies publicly traded company

A company whose shares of common stock are held by the public and are available for purchase by investors. The shares of publicly traded firms are bought and sold on the organized exchanges or in the over-the-counter market.
 are required to disclose all litigation An action brought in court to enforce a particular right. The act or process of bringing a lawsuit in and of itself; a judicial contest; any dispute.

When a person begins a civil lawsuit, the person enters into a process called litigation.
 contingencies when eventual loss from a lawsuit is reasonably possible or probable. Under Financial Accounting Standards Board Financial Accounting Standards Board (FASB)

Board composed of independent members who create and interpret Generally Accepted Accounting Principles (GAAP).
 Statement no. 5, Accounting for Contingencies, the loss is at least reasonably possible when "the chance of the future (confirmatory) event or events occurring is more than remote."

How well are businesses complying with this disclosure requirement? There's room for improvement, according to according to
1. As stated or indicated by; on the authority of: according to historians.

2. In keeping with: according to instructions.

 a recent study by Robert D. Fesler, a professor at Tennessee Technological University Tennessee Technological University, popularly known as Tennessee Tech, is an accredited public university located in Cookeville, Tennessee, a small city approximately seventy miles (110 km) east of Nashville.  in Cookeville, Tennessee. Fesler identified 126 lawsuits lost by publicly traded companies and then examined disclosures about the suits in the prior years' annual reports.

All the lawsuits that were lost by the defendant companies involved a material and noninsurable loss and spanned at least a two-year period. According to Fesler, a totally unbiased evaluation of each of these suits would indicate a loss to have been reasonably possible--and financial statement disclosure thus appropriate.

Below are the results of the study. Exhibit 1 shows the five types of financial statement disclosures during the predisposition years, when the suits were in progress before the year of court adjudication The legal process of resolving a dispute. The formal giving or pronouncing of a judgment or decree in a court proceeding; also the judgment or decision given. The entry of a decree by a court in respect to the parties in a case.  or settlement. The five categories are grouped as either satisfactory or unsatisfactory in meeting the literal requirements of FASB Statement FASB Statement

A standard set by the Financial Accounting Standards Board regarding a financial accounting and reporting method. Essentially, FASB statements determine the acceptable accounting practices that Certified Public Accountants use in reporting
 no. 5.

While the majority of companies provided satisfactory disclosures a significant minority gave no signal of the upcoming loss.

Exhibit 2 at left categorizes the lawsuits according to the charges involved, suggesting the type of action had some impact on the disclosure decision.

Fesler speculates corporate officials and their legal counsels may have difficulty providing an auditor with appropriate information concerning litigation contingencies for the following reasons:

1. A high level of emotion may be present.

2. They fear financial statement disclosure of pending litigation will be construed as admission of guilt admission of guilt n. a statement by someone accused of a crime that he/she committed the offense. If the admission is made outside court to a police officer it may be introduced as evidence if the defendant was given the proper warnings as to his/her rights .

3. There is a separate legal framework for evaluating litigation outcomes that varies significantly from that used by the accounting profession.

4. More appropriate channels exist for disclosure of such information (such as the business press).

5. FASB Statement no. 5 disclosure requirements are only viewed as a guide and therefore need not be taken literally.

"As long as 'reasonably possible' serves as the reporting threshold," Fesler said, "wide reporting diversity will continue."
COPYRIGHT 1990 American Institute of CPA's
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1990, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Publication:Journal of Accountancy
Date:Jul 1, 1990
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