Journal of Business Case Studies – March/April 2012 Volume 8, Number 2 © 2012 The Clute Institute 123 Reporting Contingencies: Environmental Liabilities Daniel P. Fernandez, Florida Gulf Coast University, USA Christine P. Andrews, Salem State University, USA Jacqueline R. Conrecode, Florida Gulf Coast University, USA ABSTRACT The dawn of environmental regulation in the late 1960’s and its proliferation through the early 1980’s resulted in a new regulatory climate for business and increased potential contingent liabilities. Recent efforts toward convergence with international accounting standards increase disclosure and improve transparency for decision makers but also impact financial reporting. This article uses a case study set in the context of potential liability under the federal Comprehensive Environmental Response Compensation and Liability Act of 1980 (CERCLA) to illustrate financial reporting with respect to uncertain environmental liabilities under current and proposed requirements of Financial Accounting Standard 5 Accounting for Contingencies (SFAS 5), now known as Accounting Standards Update 450 (ASU 450). Financial reporting under the proposed requirements provides increased transparency for users and more complete information upon which to make decisions. Keywords: Accounting for Contingencies; Environmental Liabilities; CERCLA INTRODUCTION ccounting for contingencies is a complex task. Financial statement users require information about contingent risks to evaluate investment decisions. Accounting rules task management with estimating the amount of a loss and the probability that the company will be responsible for the loss. If a loss is probable and reasonably estimable, it must be accrued (Accounting Standards Codification (ASC) 450 Accounting for Contingencies, previously known as Statement of Financial Accounting Standards No. 5 [FASB, 1975]). The question is whether estimates are reasonable and disclosures are adequate. The Financial Accounting Standards Board (FASB) proposed changes to ASC 450 partly in response to concerns about past contingency disclosures. Evidence indicated a lack of disclosure of contingent liabilities until liabilities were in fact settled (Desir, R., Fanning, K., and Pfeiffer, R., 2010; Taub, S., 2004; Fesler, R. and J. Hagler, 1989). This suggested that contingencies were not disclosed when losses were probable and estimable. In addition, the provisions of International Accounting Standard No. 37 Provisions, Contingent Liabilities and Contingent Assets (International Accounting Standards Board, 1998) provided for disclosure of possible obligations in the notes to the financial statements, resulting in increased transparency for users and greater disclosure than the disclosure required by Generally Accepted Accounting Principles (GAAP). The movement toward convergence with international accounting standards increased focus on these differences. Finally, contingent liability provisions of FAS 141R Accounting for Business Combinations (now known as ASC 805) conflicted with the provisions of ASC 450. In response, the Financial Accounting Standards Board (FASB) proposed changes to ASC 450 Contingent Liabilities. Proposed changes to ASC 450 Contingent Liabilities have been under review and in discussion since October 2008 (FASB, 2008a). Proposed changes result in part from a movement toward providing financial statement users with sufficient information to evaluate risk and help users estimate the amount, timing and certainty of future cash flows and are expected to result in requirements for increased disclosures in the notes to the financial statements. In addition, shifting perceptions of environmental risk can also result in increased sources of liability. Thus, the movement toward greater transparency in contingency reporting coupled with market sensitivity to environmental risk results in a changing environment for business and a need to recognize sources of risk and capture information for disclosure. A