Loss Contingencies: How Will They Be Disclosed in the Future?

On June 5, 2008, the Financial Accounting Standards Board (the “FASB”) proposed amendments to Statement of Financial Accounting Standards No. 5, “Accounting for Contingencies” (“FAS 5”), and Statement of Financial Accounting Standards No. 141(R), “Business Combinations” (“FAS 141R”), that, if adopted, would significantly change the requirements for disclosures about claims, including those that are the subject of litigation, and threatened claims. The FASB’s Exposure Draft of a proposed Statement of Financial Accounting Standards, “Disclosure of Certain Loss Contingencies, an amendment of FASB Statements No. 5 and 141(R)” (the “Proposed Statement”), has received 239 mostly unfavorable comment letters and has been the subject of numerous client letters and articles, including an editorial in the Wall Street Journal. The consensus of the unfavorable comments is that the proposed disclosure requirements, if adopted, could adversely affect the ability of public companies to defend claims and could threaten the attorney-client privilege. On September 24, 2008, the FASB decided to develop an alternative disclosure requirement that takes into account the concerns about the Proposed Statement and to delay the announced proposed effective date for the new disclosure requirements to no sooner than for fiscal years ending after December 15, 2009. An understanding of the Proposed Statement is still important because the FASB also decided to field-test both the proposed disclosures in the Proposed Statement and the alternative disclosure requirements.

The FASB explained that the Proposed Statement is designed to address “constituents’ concerns that the disclosures about certain loss contingencies under existing guidance do not provide sufficient information in a timely manner to assist users in assessing the likelihood, timing, and amounts of cash flows associated with loss contingencies.” One commentator questioned the assumption that loss contingencies are not adequately disclosed. Professor Joseph Grundfest stated that “the current state of the [research] literature suggests that FASB proceed with caution before reaching any conclusions based on the assumption that the investing public is, in any systematic sense, materially ill-informed or systematically unable to assess the implications of litigation-related events on stock price valuation. Simply put, the available event study data do not support those assumptions.”

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