Derivative Instruments, Debt, and Contingencies - Essay Example

Lawsuits are never an easy ordeal, but often occurred in the corporate environment. It is essential for corporations to properly inform its shareholders and other stakeholders groups of different contingencies that may affect the financial statements of a company. The firm is currently facing several issues that affect the company’s financial statement. The firm must utilize proper accounting rules to deal with the different events that are affecting the company. Along with the potential lawsuit the firm also has to attend the matter of a loan that may be discharged or reduced through a chapter 11 filing.

The third issue that the company must deal with is the possibility of patent impairment. This memo will discuss the topics of contingencies, debt rewritten based on bankruptcy protection, and impairment of patents. A contingency can be defined as a possible loss/liability or gain/asset, which may or may not be realized in the future (Ecfa, 2011). There are different types of contingencies such as obsolesce of inventory, employee claims, impairment of machinery and equipment, and lawsuits. Your company is currently facing a legal contingency resulting from the possibility of a lawsuit.

The accounting statement that deals with contingency is SFAS No. 5 (Pwc). There are different scenarios that the firm must analyze in order to determine whether or not the contingency must be reported in the financial statements or as notes to the financial statements of the company.SFAS No. 5 establishes precise rules and guidelines that accountants must follow in order to comply with the generally accepted accounting principles. The probability of occurrence of the lawsuit is one of the determining factors on whether or not it the lawsuit should be reported within the financial statements of the company.

The second factor to consider is whether of not the loss contingency can be estimated. The general rules to follow in relation to loss contingencies are illustrated in the table below:Loss is probableLoss is reasonable possibleLoss is remoteAmount of loss can be estimatedRecord liability and disclose in notesDisclose in notes onlyNothingRange of loss can be estimatedRecord low en of range a liability and disclose in notesDisclose in notes onlyNothingLoss can not be estimatedDisclose in notes onlyDisclose in notes onlyNothing(Ecfa, 2011).

Based on the table above the company can determine the proper accounting treatment. I recommend that the accounting department have a close meeting with the lawyers of the firm to determine the actual probability of the lawsuit occurring. If the lawyers are not able to determine this data then the firm should proceed to hire a risk management consultant to determine the probability of losing the lawsuit. The table in this memo provides the exact guidelines the company should follow to comply with the generally accepted accounting principles.

All the executive managers of the firm including the controller should read this memo and analyze its content closely. Contingencies often occurred in the business world, thus the firm should not worry too much about the issue. ReferencesEcfa.org (2011). Accounting for Contingencies. Retrieved November 24, 2011 from http://www.ecfa.org/Content/Accounting-for-Contingencies Pwc.com. Forensic Accounting Technical Notes: SFAS 5, “Accounting for Contingencies.” Retrieved November 24, 2011 from http://10b5.pwc.com/PDF/SFAS%205%20-%20ACCOUNTING%20FOR%20CONTINGENCIES.PDF