The following post is provided by our guest author, Graham Crockford from TRC Environmental Corporation. Graham can be reached at firstname.lastname@example.org.
Our firm is often retained to assist companies evaluate environmental risk/liabilities during acquisitions and divestitures. Whether a company is preparing to divest non-core assets, or preparing for a stock sale, contingent environmental liabilities are an element of prospective purchaser due diligence that will be scrutinized. Many corporate entities report these contingent liabilities as loss reserves on the balance sheet, and do so based upon a wide range of accounting methodologies and guidance. The reported reserves often meet the needs of stakeholders and auditors from a routine financial reporting perspective, but often provide limited comfort as they are shared with and evaluated by a prospective purchaser looking at contingencies from a buyer’s perspective. As published accounting standards and guidance change and adapt to market trends, look for contingent liability reporting obligations to continue to migrate towards a more transparent, life-cycle approach that mirrors fair-value principles.
Historical corporate disclosures for contingent environmental liabilities are deeply rooted in American Institute of Certified Public Accountants (AICPA) Statement of Position 96-1 (SOP 96-1). Referenced within that document, the older Financial Accounting Standards Board Financial Accounting Statement 5(FAS 5) requires that a loss contingency be accrued and that the nature of the contingency be described if (1) it is probable that a loss has been incurred, and (2) the amount of the loss can be reasonably estimated. FAS 5’s “probable and reasonably estimable” guidance has been the benchmark for reporting obligations for years, undoubtedly with a wide variety of interpretations on that standard. One commonality, however, that this standard produced was the practice of reporting at the best case estimate, or minimum value of the range. Replacing FAS 5, FASB Accounting Standards Codification Topic 450 (ASC 45) has built on the “probable and reasonably estimable” threshold, albeit at expanding the evaluation of “probable” into terms consistent with statistical likelihoods.
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