Chapter 13, Problem 13.9BYP

Judgment Case 13–9

Loss contingency and full disclosure

• LO13–5, LO13–6

In the March 2019 meeting of Valleck Corporation’s board of directors, a question arose as to the way a possible obligation should be disclosed in the forthcoming financial statements for the year ended December 31. A veteran board member brought to the meeting a draft of a disclosure note that had been prepared by the controller’s office for inclusion in the annual report. Here is the note:

On May 9, 2018, the United States Environmental Protection Agency (EPA) issued a Notice of Violation (NOV) to Valleck alleging violations of the Clean Air Act. Subsequently, in June 2018, the EPA commenced a civil action with respect to the foregoing violation seeking civil penalties of approximately $853,000. The EPA alleges that Valleck exceeded applicable volatile organic substance emission limits. The Company estimates that the cost to achieve compliance will be $190,000; in addition the Company expects to settle the EPA lawsuit for a civil penalty of $205,000 which will be paid in 2019.

“Where did we get the $205,000 figure?” he asked. On being informed that this is the amount negotiated last month by company attorneys with the EPA, the director inquires, “Aren’t we supposed to report a liability for that in addition to the note?”

Required:

Explain whether Valleck should report a liability in addition to the note. Why or why not? For full disclosure, should anything be added to the disclosure note itself?