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Lawrence, J. E. and D. Cerf. 1995. Management and reporting of environmental liabilities. Management Accounting (August): 48-54.

Summary by Ben Miele
Master of Accountancy Program
University of South Florida, Summer 2002

Environmental Cost Main Page | Social Accounting Main Page

A seemingly more recent problem facing the environment is contaminated sites resulting from industrial and commercial ignorance, misuse and/or abuse. Sites have been identified where companies have an obligation to clean up contamination and therefore a financial liability exists. One of the problems is determining the amount of liability and properly disclosing the company’s responsibility. This is complicated by properly identifying all potential cleanup sites, monitoring them on an on-going basis for proper disclosure, and recognition of liabilities on a timely basis. A main goal is to provide shareholders with a complete and accurate environmental liability disclosure. Proper reporting for the sake of shareholders can be difficult. Management then requires confidence when reporting environmental exposure.

Due to the technical aspects of environmental matters, involving multiple disciplines such as health, environment, engineering, legal, and government regulation, it is difficult for company accountants to make informed decisions. Application of disclosure and reporting guidance provided by GAAP is helpful, but cannot systematically determine the level of certainty, needed to disclose and/or recognize the liability. A process using informed and consistent judgment is needed for companies to be confident that they are reporting their environmental responsibility fairly.

Chevron’s cross-functional process integrates the expertise of managers in numerous functional areas. The process is used to: 1) ensure early identification and review of potential environmental clean-up sites, and 2) to disclose and recognize future financial liabilities in a timely manner. The process guides and defines the physical activities of the company, and also guides, defines, and provides information for proper disclosure and recognition requirements. At Chevron the process is regarded as a management tool since it leads to lower clean-up costs and better financial disclosure and recognition. Figure 1 presents the four major steps in the cross-functional process.

Figure 1 - Chevron Environmental Liability Process

As displayed in Figure 1 the process is cross-functional, three major functions (staff areas) are involved, Environmental Staff, Operating Management, and Finance. The flowchart maps the cross-functional aspect of the four major steps of the process:

1. Identification/assessment,
2. evaluation/measurement,
3. disclosure/recognition, and
4. remediation/monitoring.

It is emphasized that a functional area’s involvement never falls to zero during any of the four major steps. This is considered the critical success factor of the process, depicted in Figure 1 as shaded rectangular ovals.

The critical elements of each major step are summarized in Table 1.

Table 1 – Summary of Chevron’s Environmental Liability Management Process
Steps in Process / Critical Elements Identification & Assessment Evaluation & Measurement Disclosure & Recognition Remediation & Monitoring
Main Task Identify & assess all potential clean-up sites Feasibility study, remedial design, cost estimates Report, using disclosure with, or without, recognition Actively monitor environmental progress of remediation project; update record & disclose results in financial stmts
Scope Current & prior business sites, hazardous waste sites never owned, i.e. Superfund sites where company is named as *PRP (*defined below) Develop credible engineering cost estimates for each remediation project All identified projects / degree of uncertainty associated with each project; effects of joint & several liability if named as a *PRP Extended life of many projects requires careful monitoring of related liabilities due to project funding, revised estimates, and uncompleted work
Resources Needed Experts in environmental health & safety and legal experts; various scientists & engineers; financial & insurance experts Environmental project engineering staff; Cooperation between Comp-any, regulators, & environment; historical data for similar sites, fore-casts of future costs, financial stmt entries and disclosures Finance’s assessment of a liability’s materiality, timing, and amount; GAAP (authoritative guidance), including SFAS No. 5, SEC acctg bulletins, SOP’s, & FASB EITF’s Finance’s involvement ensures on-going accuracy of liability during project life
Goal Foster proactive screening; "own" the problem; be proactive not reactive Being proactive reduces risks & remediation costs; work cooperatively with gov’t agencies, make offer for leader-ship role Disclose and/or recognize timely the best estimate of future remediation costs in consideration of materiality, timing, and amount; benefit from information discovery and cross-functional processes working together Correct any over/ under estimation of liability on a timely basis; maintain environmental disclosures as "living" representations, reflecting the latest environmental status of the company
Benefits Improved relations with gov’t agencies & communities; less time & cost spent during remediation as *PRP’s can take control of clean-up vs. regulatory agency; opportunity for immediate corrective action/ intervention resulting in cost savings Fosters creative remediation solutions that benefit the public & regulatory agencies (an example of this is Chevron’s work with state & local officials re:conversion of a dried-up aban- doned 90-acre waste water treatment pond); helps avoid major expense & replenishes the environment Expense small clean-up costs short in duration rather than record as a liability; tolerance for uncertainty increases with experience and through use of cross-functional process; liability is not reasonably estimable until certainty is established from remedial design & cost estimates Valuable historical cost information from site remediation projects can be used to predict future costs and trends; cross-functional process allows activities to be correlated with cash flows (cost predictors for each type of remediation activity can be developed), cost benchmarks can be established to properly estimate future liabilities of new sites
Cross-functional involvement Environmental staff, finance, legal and operating mgmt involvement stimulates communication within company Environmental project engineering staff, Finance, legal counsel Finance, with legal counsel, regulatory experts, and environmental engineers acting as advisers; senior mgmt interprets financial ramifications; insurance experts used to resolve recovery issues Finance staff, environmental staff, senior management
Liability disclosure Earliest point to disclose a possible future liability; but difficult to estimate until site assessment is completed Increased importance as reasonable estimated costs become available; uncertainties may still exist Potential liabilities considered less than "probable" or where future costs are not "estimable" are scrutinized; record recoveries from state & local trust funds only if realization is certain, disregard potential recoveries from other *PRP’s and insurance co.’s Continuous monitoring of recorded liabilities for necessary updates based on actual results and/or revised estimates; updates to disclosures to reflect latest environmental situation and information
SEC influence (publicly traded co.’s) Early disclosure of future liabilities is encouraged strongly Same as identification & assessment stage, Early disclosure "Full" disclosure required to best serve information needs of co.’s stakeholders Same as disclosure & recognition, "Full" disclosure
Disclosure rqmts Information discovered, site assessment costs recorded, number of Superfund sites where co. has been named a *PRP Evaluation by finance expert as to recognition or disclosure of liability as reasonably estimable costs first arise Recognition if liability is probable (likely to occur) and estimable; "Full" disclosure of probable and estimable as well as less than probable (or un-estimable) liabilities Update recognition and disclosure of liabilities timely; include normal updates based on passage of time, revisions due to new information that changes original estimates, successful negotiation of remediation settlements
*PRP, PRP’s = potentially responsible party, parties

A proactive approach taken during the identification and assessment stage can reduce the length and increase the efficiency of the remediation process, reduce risk and can reduce costs. It is better than a reactive approach that tends to result in inefficient spending (ignoring, or neglecting to address a problem, is generally not a good long-term strategy). Having the confidence that a problem is under control and being worked on is better for the company internally, and better for external shareholders. The involvement of financial experts throughout the entire process provides them with an in-depth understanding of the problem allowing them to provide better financial guidance internally and disclosure externally. To best serve the information needs of a company’s shareholders, investment community, employees, and the communities where their operations are located, a full and complete environmental discussion is necessary. To meet the requirement of "full" disclosure more recently promulgated by FASB and the SEC, cross-functional involvement is necessary.

The principal focus on environmental remediation project reviews is current remediation activity and near-term expectations, while an overall environmental picture is prepared for external disclosures. In addition to formal meetings and reviews, informal and as-needed discussions play an important role. Informal discussions are needed to communicate newly identified sites. "Incorporating significant events as soon as they are known through informal communication channels is key to maintaining the accuracy and credibility of Chevron’s financial statements and external reports." (p. 54, par. 4, last sentence)

Chevron’s cross-functional process has been proven to properly and confidently reflect a company’s environmental responsibility and therefore provides us with an example of a good "working" internal control mechanism, possibly adaptable for use by other companies. The internal control checklist included as Appendix A can be used as a tool in documenting and improving a company’s environmental liability process. Non-affirmative responses indicate areas for improvement.

Appendix A - Internal Control Checklist for Environmental Liability Process


Does your company have a process to manage and report environmental cleanup responsibilities?

Is the process documented, proactive or reactive, and broken down into well-defined steps?

Does the process utilize cross-functional resources, or is it contained in one functional area?

Are the different functional areas involved simultaneously in the cross-functional process?

Has the degree of responsibility of each cross-functional area been identified?

Is the involvement of every key functional group greater than zero at all times during the process?

Has the process evolved through periodic evaluations of the process?

Is the process a priority of upper management?

Is there an environmental reporting process review by the audit committee?

Identification & Assessment

Does your company have a process for proactive internal identification of sites?

Is the identification process targeted at the set of potential sites or at one site at a time?

Does internal identification apply to all sites with potential environmental risk or only to sites subject to disposal?

Does identification start with operating management or with the environmental projects group?

Does your company take a proactive approach to identification and assessment that will avoid the inefficiencies of a reactive approach?

Does your company consider disclosure or recognition of site assessment costs at the identification stage?

Does your company consider disclosure of future cleanup costs at the identification/assessment stage?

Evaluation & Measurement

Is there cross-functional involvement in the evaluation and measurement phase?

Does the finance group get involved in the evaluation and measurement phase?

Does your company take the lead role, or is the evaluation and measurement stage driven by a regulatory agency?

Are multiple or innovative design alternatives considered?

Are estimates relied on for preliminary remediation design alternatives?

Does your company consider similar site costs available from past experience or from outside sources in estimating future site costs?

Are financial recognition and disclosure requirements considered in this phase?

Disclosure & Recognition

Does your company describe its potential environmental liabilities in the Management Discussion and Analysis section of the annual report?

Is the disclosure and recognition phase driven by the financial group?

Does the environmental projects group continue to stay actively involved in order for the finance group to be capable of the best possible disclosure and recognition judgment?

Is senior management involved in the disclosure and recognition phase?

Does the disclosure describe the circumstances of the sites that are recognized in the balance sheet as well as circumstances of sites that are less than probable or are not estimable?

Even though the future circumstances and estimates may be uncertain, is your company willing to consider a reasonable range of outcomes?

Is the environmental projects group’s involvement significant enough that it can increase the finance group’s understanding of the potentially subtle differences between the possible outcomes?

Does your company evaluate the materiality of the remediation situation?

Does your company evaluate the materiality of a site from a qualitative perspective as well as a quantitative perspective?

Does your company recognize amounts prior to an agreement on implementation of a remedial design?

Does your company exclude from its estimates the portion of the liability that is the responsibility of other potentially responsible parties?

Does your company include in its estimate the portion of the liability for which it may become responsible because other potentially responsible parties are not solvent?

Remediation & Monitoring

Does cross-functional involvement continue into the site remediation and monitoring phase?

After the remediation begins, does your company monitor the reliability of the estimates of the remaining work?

Are adjustments made to the liability throughout the actual remediation process as new information is obtained to avoid large one-time adjustments?

Planning & Reporting

Are the environmental remediation project reviews:

*Part of the regular business planning and financial forecasting process?

*Integrated into the operational and financial processes?

*Part of the regular financial reporting process?


Note: The checklist (questionnaire) above was adapted from sidebar questions interspersed throughout the article.

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