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By Gary Illiano

Editor's Note: From time to time, the SEC staff issues Staff Legal Bulletins. These are similar to the well-known Staff Accounting Bulletins, or SABs, except that the Legal Bulletins are used for non-accounting matters. Like the SABs, Staff Legal Bulletins represent the views of the SEC staff. Although they do not carry the same weight as SEC regulations that have gone through due process, departures from the guidance in the Legal Bulletins, like the SABs, should be rare.

Disclosure Guidance

On October 8, 1997, the staff of the SEC issued Staff Legal Bulletin No. 5 to remind public companies of their disclosure obligations concerning the Year 2000 issue. The Year 2000 issue relates to a computer system's inability to correctly process information into the year 2000 because a two digit date field may be read as some other year, such as the year 1900, instead. The bulletin discusses the need for ongoing review of the problem, in particular the associated costs and uncertainties, which may require disclosure in commission filings.

Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) requires disclosure of known material events and uncertainties that are reasonably likely to affect financial results. If the cost to address the Year 2000 issue, or the consequences of untimely resolution of the issue, represents a material event or uncertainty, disclosure would be required in MD&A. In other words, if the cost to fix the problem, or the costs resulting from failure to fix the problem, are known, or reasonably likely, to be material such that current results may not be indicative of future results, then disclosure in MD&A is required.

On October 31, 1997, the AICPA issued a "toolkit" that discusses current authoritative guidance on the Year 2000 issue. An appendix to that document includes sample MD&A disclosures. The toolkit is available on the Internet at the AICPA web site: www.aicpa.org.

Disclosure may also be required in some SEC forms in the "Description of Business" section, if the Year 2000 issue materially affects a company's products, services, or competitive conditions. Here the effects should be measured in relation to each of the company's reportable industry segments.

Companies may consider the consequences of the Year 2000 issue to be significant enough to require the filing of a Form 8-K. The disclosure would be included under Item 5 of the form. In the bulletin, the staff reminds companies of the need for accuracy and completeness in such an 8-K filing, particularly where the company may have a registration statement that incorporates by reference 1934 act reports such as Form 8-K.

As a follow-up to the issuance of the Staff Legal Bulletin, the SEC has directed the staff to assess disclosure regarding the Year 2000 issue. The focus of the staff of the Division of Corporation Finance will be on those industries where the Year 2000 problem is most likely to have a material impact, such as financial institutions. Corporation Finance is planning special reviews of filings in selected industries beginning with annual reports on Form 10-K or 10-KSB for December 31, 1997.

Should the SEC staff determine that disclosure of Year 2000 issues is not satisfactory, it likely will take remedial action. Such action would include increasing targeted reviews, expanding educational efforts, or recommending specific rulemaking by the SEC. The SEC staff could also recommend instituting enforcement actions where warranted.

Staff Legal Bulletin No. 5 is available on the Internet at www.sec.gov. An area of the SEC web site is designated to provide information on the Year 2000 issue.

Accounting Guidance

In EITF Issue 96-14, Accounting for the Costs Associated with Modifying Computer Software for the Year 2000, the Emerging Issues Task Force reached a consensus that costs to modify internal use software for the year 2000 be expensed as incurred. The task force did not address the replacement of existing software that is not Year 2000 compliant with purchases of hardware or software that is compliant. Replacement software and hardware is subject to standard accounting including, where appropriate, capitalization and amortization of costs incurred.

In the minutes of the July 23-24, 1997 EITF meeting, the SEC observer provided clarification of the SEC staff's views on the accounting for future costs of software modifications. The SEC staff would object to the accrual of the costs to modify software for Year 2000 problems before those costs are incurred. The staff believes that such expected future costs are not a
liability under SFAS 5, Accounting for Contingencies.

The CPA Journal is broadly recognized as an outstanding, technical-refereed publication aimed at public practitioners, management, educators, and other accounting professionals. It is edited by CPAs for CPAs. Our goal is to provide CPAs and other accounting professionals with the information and news to enable them to be successful accountants, managers, and executives in today's practice environments.

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