One of the issues discussed in this chapter is the financial statement recognition and disclosure of contingent liabilities, such as the potential claims associated with litigation and environmental obligations. Loss and liability recognition is dependent on whether it is likely that an asset has been impaired or a liability has been incurred, and the degree to which the loss can be reasonably estimated. Evaluating whether these conditions exist is often a matter of judgment by management and auditors, perhaps more so than with any other issue of recognition or disclosure. Research has shown that reliance on judgment can lead to significant differences among companies, regarding whether and how contingencies are disclosed.
In today's environmentally conscious world, regulatory bodies are making more demands on resource companies to be environmentally responsible. For example, companies involved in mineral or petroleum exploration and development are often required to provide for the cleanup and restoration of resource sites. A review of the annual reports of resource companies reveals that some of these companies report liabilities on their balance sheets in anticipation of these future events, some of these companies disclose contingent liabilities in the notes to their financial statements, and some do or say nothing about these future costs.
Required:
In a brief essay, discuss the criteria that companies should use when deciding on the type of disclosure that is appropriate in accounting for future cleanup and restoration costs, and the practical difficulties they may encounter when they try to implement these criteria.