The tension over waivers of privilege or work product protection for accrual work papers arising from proposed changes to the FASB standard for disclosing loss contingencies would complicate the relationship between companies and their independent auditors. In a letter to FASB, which was signed by over 150 General Counsel from a variety of companies, the Association of Corporate Counsel noted that, if the auditors needed to evaluate the legal analysis underlying a given disclosure, even if such analysis itself is not disclosed, this could increase the likelihood of a court determining that a waiver of privilege has occurred. In support of its contention, the group cited the full First Circuit’s 2009 ruling in U.S. v. Textron, Inc. that tax accrual materials prepared by in-house lawyers primarily to obtain a final audit opinion would not be afforded work product protection. In the group’s view, the Ninth Circuit ruling presents in stark relief the serious dangers raised by the accrual-related disclosures in the FASB draft. The changes are proposed for former FAS 5, loss contingencies, which is Topic 450 in the Codification.
Although corporate counsel understands that FASB does not want to jeopardize these fundamental protections, the association still has significant concerns that the accrual-related disclosures, if adopted as proposed, could lead to an outcome where plaintiffs’ lawyers eventually are able to arm themselves with the thoughts and impressions of company counsel, which the group believes would be an unacceptable outcome injurious to the company and its shareholders. Thus, the association urged FASB to modify the proposal to require disclosure of accrual amounts only if necessary for the financial statements not to be misleading, as under the current standard, and to remove the requirement for disclosure of accrual amounts in the tabular reconciliation.
A tension arises because, if companies adhere to the FASB guidance in the draft and refrain from disclosing any information that is privileged or subject to attorney work-product protection, then disclosures about accruals likely would be based on very limited information, without the benefit of in-house and outside counsels’ analyses of the risks and exposure. Disclosures based on such limited information not only would be laden with necessary disclaimers but also would disservice the users of financial statements. On the other hand, the accrual disclosures and related information that the outside auditors may seek as part of the audit process in order to audit the accrual amounts or range of loss for each individual contingency could raise the risk that a court later will deem that these disclosures constitute a waiver of privilege or work-product protection. Thus, the disclosure of accrual amounts for each litigation contingency that is probable, and the related tabular reconciliations of such amounts, present a real risk that privilege and work product protections that form the bases for such information could be lost.
In any event, the association asked FASB to delay the effective date of the new standard in order to give audit committees, company management and outside auditors time to evaluate the final guidance and discuss implementation issues that are particular to the company. And, once developed, audit committees and the outside auditor will need to spend adequate time assessing and, in the case of the auditor, auditing the information relevant to the disclosures. FASB originally proposed that companies would begin providing enhanced loss contingency disclosures in financial statements for fiscal years ending after December 15, 2010. But at an October 27 meeting, FASB decided that a final standard would not be effective for the 2010 calendar year-end reporting period.