An Extraordinary Decision Leads to Extraordinary Changes

By Jacqueline A. Burke

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The future of extraordinary items is in question. The International Accounting Standards Board (IASB) is considering removing any disclosure of extraordinary items in financial statements, citing the difficulty of objectively separating the financial effects of one event from those of another. IASB’s justification for the proposed change is similar to FASB’s Emerging Issue Task Force’s (EITF) not permitting extraordinary item treatment for losses and costs from the September 11, 2001, terrorist attacks. FASB and IASB are working on this and other projects that may lead to the elimination of extraordinary items.

EITF’s September 11 consensus raised questions about the usefulness and practicality of the current guidelines for extraordinary items in Accounting Principles Board Opinion 30 (APBO 30). A major reason for EITF’s September 11 decision was that the “communication objectives of Opinion 30 with respect to extraordinary items could not be met” due to the “pervasive” effect on the economy of such terrorist attacks. The consensus also stated that it would be very difficult to separate the effects of September 11 from the effects of the economic slowdown prior to September 11. Whether EITF’s decision was appropriate, given the current guidelines of APBO 30, is debatable.

The root of the problem, however, may be within the opinion itself. The difficulty of treating the losses from the terrorist attacks as extraordinary is not unique to the events of September 11. Other events that would perhaps be considered extraordinary would likely have similar problems.


On September 20, 2001, EITF discussed whether the losses of September 11, 2001, should be reported as extraordinary losses. At first, EITF decided that the losses should be reported as extraordinary except for insurance companies, which should report the losses as part of income from continuing operations. One week later, however, EITF changed its decision, indicating that the losses and costs incurred because of September 11 should be part of continuing operations.

Further, if such losses and costs met the disclosure criteria for unusual or infrequently occurring items as defined in APBO 30, then they should be classified as a separate component of income from continuing operations, in either the income statement or the notes to financial statements. EITF cited the following reasons for its position:

[T]he effects of those events were so wide-ranging and had such a pervasive impact on U.S. business and the U.S. economy that the foregoing communication objectives of Opinion 30 with respect to extraordinary items could not be met. The Task Force agreed that despite the incredible nature of the September 11 events, extraordinary item financial reporting treatment would not be an effective way to communicate the financial effects of those events and, therefore, should not be used in this case. (Issue No. 01-10, p. 4)

EITF also predicted that lost revenues would be the most significant financial impact of the events to many businesses, and APBO 30 does not allow for the estimation of lost revenues. Another reason for disallowing extraordinary treatment was the difficulty of “capturing” the financial effects of the terrorist attacks in any single financial statement item, because only a part could be captured as an extraordinary item. Showing only a part of the impact as an extraordinary item would “hinder, rather than help, effective communication.” Furthermore, nonextraordinary treatment is “consistent with the broader objective of providing financial reports that communicate effectively and clearly.” The following is an excerpt from a comment letter in response to this decision:

My company has operations in New York that were directly impacted by the attacks. … Our results for the period in which the attacks occurred will be neither consistent nor comparable with our historical results and our peers’ without appropriate discussion and disclosure of the financial consequences of the attacks. We will be preparing an estimate of these consequences which we will disclose to the public. Analysts who cover the company have asked for this information. … Interested parties, including analysts and investors, will have to use common sense to assess the usefulness of the information we provide. It would be easier for them to do so had the information we provide been subjected to review by our auditors as a separate disclosure in our financial statements.

The Decision’s Impact

According to PricewaterhouseCoopers, business interruption claims will eventually total at least 30% of all insurance claims related to the September 11 attacks. The remaining 70% of claims are for property, casualty, and life losses, which have been measured directly for insurance purposes.

In its reason for disallowing extraordinary treatment, EITF explained that “it would be impossible to isolate and therefore distinguish (in a consistent way) the effects of the September 11 events … because of the inability to separate losses that are directly attributable to the September 11 events from those that are not.” For example, separating the impairment of long-term assets caused by the terrorist attacks from that attributable to the preceding economic slowdown might not be done consistently across companies.

The Air Transportation Safety and System Stabilization Act (Public Law 107-42, September 22, 2001) provided financial assistance to airlines. Its implementation required separating the financial impact of September 11 from the general conditions of the economy. Airlines were eligible for compensation for “incremental losses” incurred from September 11, 2001, through December 31, 2001. Insurance companies also had to address this problem in order to process business interruption claims. Accountants should also have been able to come up with a method of separating the financial conditions of the economy from the financial effects of the terrorist attacks. A comment letter from a director of audit services said:

It is obvious to anyone that Morgan Stanley (based in the WTC) will have greater costs associated with the attack than Charles Schwab, which is based in San Francisco and did not have a large of portion of its workforce killed and its offices reduced to ash and rubble. Here, I should also point out the existence of accounting rules that define what costs can be considered extraordinary and which cannot be. The FASB’s role in this case should be to reiterate the rules to the AICPA and the SEC to ensure enforcement thereof.

Allegedly, EITF did not want companies being burdened by having to spend significant time meeting with financial statement preparers and auditors to decide which costs should be classified as extraordinary. Even if companies were given guidance in identifying losses as extraordinary, some EITF members thought that it would have been “very difficult and reasonable people could come to very different answers.” EITF stressed that it did not believe that reporting even some losses and costs as extraordinary would be an effective way of communicating the effects of September 11. EITF’s consensus did require that companies disclose, at a minimum, a description of the—

  • nature and amounts of losses and costs the company incurred and amount of any insurance recoveries;
  • contingencies not yet recognized in the financial statements but reasonably expected to be recognized in the future; and
  • risks and uncertainties related to the operations of the company and the amount of estimates as well as the use of these estimates.

EITF was also concerned that the financial statements of companies had to be prepared quickly because the end of the third quarter was approaching. According to then–EITF research director Tim Lucas during an interview with FMM Online, some companies received approval to file late, and broader extensions could presumably have been made. It is interesting to note that the New York City Comptroller’s Office had issued a lengthy document on October 4, 2001, detailing preliminary estimates of the financial impact of the September 11 terrorist attacks. A report issued by then–Comptroller of the City of New York Alan G. Hevesi estimated the value of the destroyed World Trade Center buildings (referred to as the property loss/damage) at $34 billion. Also, the cost of human capital loss (i.e., lost earnings of workers) was estimated at $11 billion. The report provided other detailed information about the financial effects of September 11, such as the estimated costs of—

  • new security requirements;
  • replacing lost equipment;
  • subway and utility repairs;
  • property cleanup;
  • overtime pay for police and firefighters;
  • replacing lost fire and police equipment;
  • road reconstruction;
  • burial services; and
  • claims for disabilities, bereavement, and post-traumatic-stress disorder.

It should be noted that these preliminary estimates were computed only three and a half weeks after the attacks. If New York City was able to compute the estimated financial impact of the terrorist attacks on the entire city in less than four weeks, then perhaps at least some companies would have been able to meet their filing deadline. A valid concern is whether these estimates would have been correct. In fact, approximately one year after Hevesi issued his report, Comptroller William C. Thompson, Jr., issued an updated report that estimated the value of the destroyed World Trade Center buildings (the property loss/damage) at $22 billion, down from the original estimate of $34 billion. The cost of human capital loss (lost earnings of workers), originally estimated at $11 billion, was estimated at approximately $9 billion. There was also a substantial difference from one year to the next for the costs of disabilities and trauma, such as costs resulting from leaves for medical reasons, leaves for funeral services, and medical services for both physical and psychological injuries. On the other hand, some preliminary estimates by Hevesi were not very different from Thompson’s. For example, Hevesi’s report estimated cleanup costs at $1 billion; Thompson’s report, $1.1 billion.

Insurance Industry

EITF first proposed that the insurance industry would not be able to treat September 11 losses as extraordinary but that other companies would be able to. There is little room to argue with this decision. As EITF stated, the insurance industry does not meet the “unusual in nature” criteria because paying out claims for losses is part of normal business activities for insurance companies. EITF further stated that the insurance industry does not meet the “infrequency” criteria of APBO 30, because it has paid insurance claims related to business interruption, destruction of buildings, and airline crashes in the past and thus it can be reasonably expected that these types of claims will be paid again in the future. The American Insurance Association (AIA) supported the initial decision to permit all companies other than insurance companies to classify September 11 losses as extraordinary. One major financial institution disagreed, however, calling the distinction “entirely unsupportable within the literature.”

Some contended that the magnitude of the losses was a reason for insurance companies to treat them as extraordinary. According to Steven Kessler of PricewaterhouseCoopers’ insurance claims practice, the terrorist attacks have “been unprecedented in many ways. It is the largest catastrophe [in dollar amount] ever recorded by the insurance industry, far surpassing Hurricane Andrew. It has also tested insurance policy terms and conditions far more so than any significant event ever has. … the underwriters who wrote the language never anticipated such an unusual event occurring.”

Although estimates for total insured losses from September 11 continue to change, Gregory V. Serio, insurance superintendent for New York, estimated the losses to be approximately $40 billion for the insurance industry. As observed from a small sample of insurance companies in the Exhibit, insurance companies incurred losses of greater than normal magnitude, Even though the losses may have been extraordinary, insurance companies do not meet the “unusual in nature criteria,” because paying for losses is the ordinary nature of their business.

The Future of Extraordinary Items

IASB has moved toward the elimination of extraordinary items. As a result of its “Improvements Exposure Draft (Improvements to International Accounting Standards),” issued May 2002, the IASB has banned the separate classification of extraordinary items in the income statement as well as in the financial statement notes (IAS 1.85). This change is one of various changes made to IAS 1, “Presentation of Financial Statements,” and will take effect January 1, 2005. According to IASB, eliminating the extraordinary item classification should end the need for subjectively segregating the financial impact of one event from that of another. The IASB’s position is that extraordinary items are a normal risk of doing business and thus should not be reported separately. According to Marie-Christine Batt, technical staff member at IASB, an advantage of banning extraordinary item presentation is that it will “promote convergence with accounting frameworks in Australia, Canada, New Zealand, and the U.K., where in recent years accounting standards were amended to define ‘extraordinary items’ so narrowly that their presentation is almost prohibited.”

The author asked FASB Chair Robert Herz if EITF’s consensus influenced IASB’s process. He responded, “Not specifically, but to some of us on the IASB (from the U.S.) it was yet another example of the difficulty of the concept.” Former FASB Research Director Tim Lucas answered, “I think it did influence the IASB. The decision brought a lot of attention to extraordinary item reporting.” Lucas further explained that the idea of eliminating extraordinary items was mentioned by FASB from time to time prior to September 11, because “anytime a question was asked if an item was extraordinary, the answer was almost always no.” Lucas also stated, however, that “FASB did not see any urgency about the issue so it was never really addressed.”

Since September 11, there have been further discussions about doing away with extraordinary items. According to Herz, “Both the FASB and the IASB are working on projects on Financial Performance Reporting. Among other objectives, these projects are looking at ways to better format, display, and disaggregate information in the income statement; for example, as between operating and financing activities. But this is unlikely to include a special caption for extraordinary items.” In April 2004, however, the board met and tentatively decided to propose that businesses should prepare a statement of comprehensive income that will report revenues, expenses, gains, and losses. According to FASB, this newly proposed statement should be divided into at least three major sections: business activities; financing; and other gains and losses. Surprisingly, it was also decided that the effects of extraordinary items should continue to be reported, but should be presented in one of the sections, not as a separate item. FASB has decided that the effects of discontinued operations, on the other hand, should continue to be presented as a separate category after the major sections. According to Larry Smith, FASB’s EITF chair and director of technical application and implementation, a public document on this project “will probably not be issued until 2005.” Jennifer Smith, the project coordinator of the Financial Performance Reporting project, said that FASB will be working jointly with IASB on this project and plans to issue the public document in the second quarter of 2005.

Expectations and Alternatives

Although separating the direct effects of September 11 from the economic slowdown indirectly caused by the terrorist attacks might have been difficult for some companies, it would not have been as difficult for the airlines and the companies that sustained physical damage in lower Manhattan. EITF could have restricted extraordinary item treatment to such companies. It could have provided even further restrictions, such as restricting the extraordinary losses of the airline industry to costs and losses that occurred from the day of the attacks to the day that the airlines were permitted to reopen. Additionally, because APBO 30, paragraph 24, requires that items be material in order to qualify as extraordinary, EITF could have set a materiality threshold, such as that the aggregated losses and costs (net of actual or estimated insurance recoveries) must be equal to 10% or more of income from continuing operations.

EITF’s consensus provided a conservative solution to their problem, at least as it affects the comparability of reported financial results. Additionally, EITF was under time pressure to reach a consensus quickly enough for companies to meet their filing deadlines. The consensus has, however, raised questions about the viability of APBO 30’s approach.

Jacqueline A. Burke, PhD, CPA, is an assistant professor at the Frank G. Zarb School of Business Department of Accounting, Taxation and Business Law, at Hofstra University.




















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