Question

MegaCorp's corporate headquarters, built in 1970, has asbestos in its insulation. The company's financial statements reflect a $5 million asset retirement obligation (ARO) for the eventual remediation of the asbestos. This ARO was initially estimated and recorded in 2005 when the company adopted FIN 45, Accounting for conditional Asset Retirement obligations. (note: amounts recorded for ARO are generally estimated because it is not always possible to know how much remediating asbestos - or other like issues - will ultimately cost) MegaCorp is a public company with a calendar year-end.

While performing routing maintenance work on the facility, additional sampling identified that presence of asbestos in more places than the company had documented during its initial estimate. The company now believes that total cost to remediate the asbestos will be $9 million. The initial estimate ($5 million) was based on sampling around the plant for areas containing asbestos. The newly discovered areas wutg asbestis were in a part of the facility that was not sampled.

Required: Assume that you are in the controller's group of MegaCorp and have been asked to prepare an accounting issues memorandum documenting your consideration of the following issues. this should be complete memorandum with all sections and appropriate headings, etc.

1. the company's controller is questioning whether this liability for asbestos disposal is even necessary at all. He argues that asbestos must only be remediated if its is disturberd (such as through renovations), and points out that the company does not have any immediate plans to renovate the building. Respond to his question using authoritative guidance. is a liability even necessary if the company plans for disposal or renovation of this builidng are uncertan?

Determine whether the additional liability for the newly discovered asbestos is considered a change in accounting estimate or an error. Note that this is not a change in accounting principle. support your answer using authoritative guidance.

Describe how the company should record this $4 million change (prospectively, or through a retrospective adjustment). What accounts should be debited/credited? you can disregard the use of present value for this example.

Answer 1

Determine whether the additional liability for the newly discovered asbestos is considered a change in accounting estimate or an error. Note that this is not a change in accounting principle. support your answer using authoritative guidance.

Answer: The newly discovered asbestos is considered change in accounting estimate. Initially it was $5 million estimated based on the sampling of area in and around the plant, hence it was not an error, howeve subsequently new areas were added and the estimate was revised. Thats why $4 million was the new accounting estimate than the previous of $5 million.

Describe how the company should record this $4 million change (prospectively, or through a retrospective adjustment). What accounts should be debited/credited? you can disregard the use of present value for this example.

Answer: Any change in the accounting estimate is recorded prospectively not retrospective adjustment.

Loss due to increase in Accounting recognition Obligation (ARO) is debited with $4 million

And Asset Retirement Liability is credit with $4 million.