Written Assignment 2

Topics: Balance sheet, Financial audit, Audit Pages: 5 (1288 words) Published: April 27, 2014
Background
Rossi Inc. is a diversified manufacturer of industrial products. In 2008, Rossi updated its asbestos litigation liability, including the costs of settlement payments and defense costs relating to currently pending claims and future claims projected to be filed against the Company through 2017 for losses incurred to date. Before 2008, the Company’s previous estimate was for claims projected to be filed through 2011. As part of the 2008 update to the asbestos litigation liability, Rossi engaged Thompson and Associates, a consulting firm, to serve as an external specialist to estimate the claims liability for December 31, 2008. As a result of the 2008 update and the external specialist claims estimate, the Company significantly increased its recorded asbestos litigation liability by $586 million, arriving at a total liability estimate of $1,055 million as of December 31, 2008. During 2009, additional payments against the reserve reduced the recorded liability to $962 million. As of December 31, 2009, the Company performed an analysis of the asbestos litigation reserve and determined that the asbestos litigation liability should remain at $962 million. In 2009, Rossi Inc.’s average cost per claim litigation increased from $29,000 in 2008, to $34,000 due to management’s aggressive approach. This resulted in Thompson concluding that the litigation liability account should have a carrying value of $1,124 Million instead of $962 Million. Management of Rossi Inc. thinks that there aggressive approach to litigation claims in 2009 and revised defense strategy will decrease litigation cost and defense cost in the future. Research Question:

You have been asked by the engagement partner to review the client’s accounting for the asbestos litigation liability and determine the appropriate accounting literature for Rossi’s recognition and measurement of the asbestos litigation liability.

Relevant Literature
Accounting Standards Codification 450-20-25-1 & 2 Loss Contingency Recognition “25-1 When a loss contingency exists, the likelihood that the future event or events will confirm the loss or impairment of an asset or the incurrence of a liability can range from probable to remote. As indicated in the definition of contingency, the term loss is used for convenience to include many charges against income that are commonly referred to as expenses and others that are commonly referred to as losses. The Contingencies Topic uses the terms probable, reasonably possible, and remote to identify three areas within that range. 25-2 An estimated loss from a loss contingency shall be accrued by a charge to income if both of the following conditions are met: a. Information available before the financial statements are issued or are available to be issued (as discussed in Section 855-10-25) indicates that it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements. Date of the financial statements means the end of the most recent accounting period for which financial statements are being presented. It is implicit in this condition that it must be probable that one or more future events will occur confirming the fact of the loss. b. The amount of loss can be reasonably estimated.”

Management’s Application
Rossi Inc. records indicate that litigation liabilities exist and that un-asserted litigations will arise in the future for events which occurred before December 31st, 2009. These claims can be reasonably estimated based a frequency severity method used in many asbestos litigation cases. Therefore, Management of Rossi Inc. has met both conditions and correctly accrued the reasonably estimated cost of the litigation liabilities. Accounting Standards Codification 450-20-30-1 Initial Measurement “If some amount within a range of loss appears at the time to be a better estimate than any other amount within the range, that amount shall be accrued. When no amount within...
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