Summary of Posts on Disclosure of Litigation Contingencies

Tammy Whitehouse at Compliance reported earlier this week on a speech at a New York Bar Association Conference by Wayne Carnall, chief accountant for the SEC’s Division of Corporation Finance.

[Carnall] told an audience at a that they should be careful not to lean too heavily on a long-standing treaty between lawyers and auditors when deciding what to report about litigation contingencies in financial statements. Carnall was referring to the 1975 “Statement of Policy Regarding Lawyers’ Responses to Auditors’ Requests for Information,” commonly known as the “treaty” between the American Bar Association and the American Institute of Certified Public Accountants.

I’ve written extensively on the subject of disclosure of litigation contingencies. My most recent article in Forbes is a reaction to listening, with Matt Kelly of Compliance Week, to a panel discuss it last November at the Financial Executives International Current Financial Reporting Issues Conference.

Auditors currently have a free pass when it comes to obtaining, assessing, and evaluating any information from the lawyers that lawyers consider privileged. The AICPA signed a Treaty with the ABA in 1975 that allows auditors to abdicate their duty to shareholders. Charles Nathan of Latham & Watkins, writing in August of this year for the Harvard Law School Forum on Corporate Governance:

“…the new ASC 450 could destabilize the 1975 “Treaty” between the legal and accounting professions over lawyers’ responses to auditors’ inquiries regarding certain loss contingencies, as memorialized in the ABA’s “Statement of Policy Regarding Lawyers’ Responses to Auditors’ Requests for Information.” The Treaty aims to protect against the waiver of the attorney-client privilege in communications by the company’s attorney to the outside auditors regarding litigations and claims, by setting forth guidelines as to what information, confirmations and opinions the lawyer may provide and the auditor may expect.”

Yesterday, I attended an update on these proposals at the Financial Executives International Current Financial Reporting Issues Conference in New York.

Alan Beller of Cleary Gottlieb stated it plainly:

“If the Exposure Draft is adopted, there will be a big, serious tug of war between preparers, their lawyers and the auditors.”

Those comments were published in Forbes on November 16, 2010.

I also repeated in that piece a comment I gave to BNA back in 2008:

“Existing disclosures under FAS 5 downright hide, obfuscate, and thumb their noses at the need for investors to know what’s going to happen to their investment.’’

My feelings about any clashes between auditors and accountants over disclosures for contingencies were outlined, with no subtlety, when the idea of tightening the requirements was first proposed in 2008:

Edith Orenstein has a very extensive summary on the FEI Blog of the latest in potential changes to FAS 5 disclosures. The proposal is causing a significant amount of consternation and wrinkled brows for the corporate lawyers.

But in this case, the corporate lawyers are going all out to defend their corporate clients and their bias shows like a tattered slip under a cheap floozy’s summer wrapper.

Consider one of the most vocal ones. Mike Young is always good for a good quote about how any and all disclosure is bad for his clients’ (company management, certainly he’s not thinking about shareholders) position vis a vis their defense and negotiation with those that sue them.

He’s a (big) talking head for the audit firms, too. But he’s also afraid of the auditors.

Which side are you on, Mike?

From Mr. Young’s comment letter:

…It is to the Board’s credit that it seeks to mitigate these concerns through the possibility of aggregation.  While that attempt is commendable, however, it doesn’t really solve the problem. The prominence of large litigation often cannot be disguised by aggregation, and both large and small litigation would presumably be the subject of robust discussion with the outside auditor in disaggregated form, thereby making highly prejudicial information potentially available to adversaries through loss of the attorney-client privilege…

Yeah.  He makes a great case for me to agree with squelching disclosure.


My writing on the initial proposals can be found in the following posts:

August 27, 2008 FAS 5 (and Francine) Featured In BNA

August 18, 2008 Big 4 and FAS 5 – What We Don’t Know Can’t Hurt Us

August 12, 2008 Improving Contingency Disclosure? Just Keep Doing The Shuffle

August 11, 2008 Update (2) – More FAS 5 – More Transparency or More Shilling

7 replies
  1. Ken Biddick
    Ken Biddick says:

    I have not read all of the commentary on the subject and speaking from the perspective of a former auditor and current expert witness in economic damages any change in FAS 5 (sticking to the old reference) would be a bad choice. Specifically, any detailed rules would simply allow for opportunity to do more harm than good. Any company in litigation needs to defend or prosecute their claims vigorously. Their lawyers are sworn advocates and must do the same for the best interest of the client. Expecting that counsel is going to disclose or subject thier case to an auditor’s request for information regarding the potential outcome is fatal to the lawyers responsibility to their client. Auditors have available significant amounts of information that is publicly available in the pleadings related to any ongoing litigation. Understanding the economic elements from a damages perspective also allows an estimate with regard to the potential gain or loss associated to the action. Being able to assess the actual outcome is an entire other issue that would be nothing more than speculation on anyones part. However, understanding an measuring the potential economic consequence is capable of being estimated and for anyone to decide how to assess the actual risk of an adverse outcome. Perhaps obtaining a neutral legal opinion would be a better option than asking the client’s attorneys to disclose priviledged information, which of course enhance the independence and objectivity of the auditor’s assessment. However it is still something that in almost all cases cannot be determined with the degree of certainty required to actually take a charge to earnings for a loss contingency. Given all the available information discussed any investor would have sufficient knowledge to make an investing decision.

  2. Barega
    Barega says:

    Wow, incredible blog layout! How long have you been blogging for? you made blogging look easy. The overall look of your web site is magnificent, as well as the content!

  3. Francine
    Francine says:


    I have been blogging for four years. I’ve had this format for two. I had lots of help from Jason Moriber @jasonmoriber on Twitter. Thanks.

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