Contingent Loss

Question: Assume that a company recognizes a contingent loss because it is judged to be probable and subject

to a reasonable estimation. Eventually, all estimates are likely to prove wrong, at least in some small amount.

What happens when a figure is reported in a set of financial statements and the actual total is later found to be


For example, Wysocki Corporation recognized an estimated loss of $800,000 in Year One because of a lawsuit

involving environmental damage. Assume the case is eventually settled in Year Two for $900,000. How is the

additional loss of $100,000 reported? It relates to an action taken in Year One but the actual amount is not

finalized until Year Two. The difference is not apparent until the later period.

Answer: In Year One, because both criteria were met, an $800,000 loss was recognized on the income statement

along with a corresponding liability. Notes to the financial statement explain the nature of this lawsuit as well as

the range of any reasonably possible losses. Decision makers analyzing the Wysocki Corporation should realize

that the amount reported is not a precise measure of the eventual loss. The same is true of all contingencies and

other estimations. By the time that the exact amount of loss is determined, investors and creditors have already

incorporated the original information into their decisions, including the uncertainty of the outcome. Restating the

Year One loss to $900,000 does not allow them to undo and change the decisions that were made in the past.

Consequently, no change is made in the $800,000 figure reported for Year One; the additional $100,000 loss is


recognized in Year Two. The amount is fixed at the time that a better estimation (or final figure) is available.

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