FASB Mulls Change to Rule on Pending Lawsuits

The Financial Accounting Standards Board (FASB) is considering lowering the threshold for recognizing a public company's potential loss from pending litigation, a board member disclosed in a recent forum.


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Lowering the percentage for potential loss of a pending lawsuit is one of the options on the table before FASB, said board member Leslie Seidman at the Financial Reporting Conference at Baruch College in New York, May 4, according to CFO.com. FASB had been contemplating a fair-value approach for contingent liabilities, but Seidman said that another method might simply be to reduce the threshold for when a liability should be recognized. Comment letters to FASB have indicated that the current threshold is too high.

Currently, Financial Accounting Standard 5 (Recognition and Measurement in Financial Statements of Business Enterprises) states that public companies must disclose any lawsuit that is likely to result in a loss. To comply, a defendant in a lawsuit must estimate an 80 percent probability of paying damages.

FASB could lower the threshold to 51 percent, the "more likely than not" or "reasonably possible" zone in the probability spectrum, said Seidman at the conference.

In contrast, the International Accounting Oversight Board says a liability should be measured at fair value using expected cash flows. For example, if a company is being sued for $100 million, and it believes it has only a 10 percent chance of losing the legal battle, it should book a $10 million liability.

The possible shift in the recognition threshold for contingent liabilities could be just a temporary step toward fair value and convergence with international accounting standards, according to CFO.com.

James Barge, senior vice president and controller at Time Warner, expressed some concerns about fair-value estimates.

"As [does] any company, we have thousands of lawsuits at any one time," he told CFO.com. "I'm concerned about someone else's judgment of them." For example, managers' budgets and compensation could be affected by a third party's determination of a fair-value assessment of contingent liabilities.

Meanwhile, speaking of lawsuits, a recent study shows a significant drop in accounting-related securities litigation in the U.S., Accountancy Age of Britain reports. The study by PricewaterhouseCooopers says that actions against non-U.S. companies had dropped sharply, from 29 in 2004 to 19 in 2005. In total, 168 cases were lodged in 2005, down 17 percent from the 203 cases recorded in 2004, and also less than the 10-year average of 188 cases a year.

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