What Is a Subsequent Event in Accounting?
Understand subsequent events in accounting: what they are, why they matter for financial reporting accuracy, and how they impact company disclosures.
Financial statements provide a view of a company’s financial health, serving as a communication tool for investors, creditors, and other stakeholders. These statements, particularly the balance sheet, offer a snapshot of a company’s financial position at a point in time. The income statement, in contrast, presents performance over a period. For these reports to be accurate, companies must consider all relevant information, including events that occur after the balance sheet date but before the financial statements are issued.
Understanding Subsequent Events
A subsequent event is a significant occurrence that takes place after the balance sheet date but before the financial statements are issued. The balance sheet date represents the point in time at which a company’s financial position is assessed. For example, if a company’s fiscal year ends on December 31, its balance sheet date for annual statements would be December 31.
The period between this snapshot date and the date the financial statements are issued is important. Financial statements are generally issued when widely distributed to users or filed with regulatory bodies. Events occurring within this timeframe can provide evidence about conditions that already existed at the balance sheet date, or they might indicate new conditions that arose afterward. Recognizing these events helps ensure financial statements remain relevant and do not mislead users about the company’s financial position.
Categories of Subsequent Events
Subsequent events are categorized into two types based on the nature of the information they provide: adjusting events and non-adjusting events. This distinction is based on whether the event provides evidence about conditions that existed at the balance sheet date or conditions that arose after that date.
Adjusting events provide evidence about conditions that existed at the balance sheet date, requiring financial statement adjustments. For instance, if a company had a pending lawsuit at the balance sheet date and the lawsuit is settled for a different amount during the subsequent events period, the original contingent loss accrual would be adjusted to reflect the actual settlement.
Similarly, the bankruptcy of a customer after the balance sheet date, if it indicates that an outstanding receivable was uncollectible at the balance sheet date, would require an adjustment to the allowance for doubtful accounts. The sale of inventory below its cost after the balance sheet date might also indicate that the inventory was overstated at the balance sheet date, necessitating an adjustment.
Non-adjusting events provide evidence about conditions that arose after the balance sheet date and do not change financial statement numbers. Examples include a major fire or flood that destroys uninsured assets after the balance sheet date, as the destruction event did not exist at the balance sheet date.
The issuance of new debt or equity securities, a significant acquisition of another business, or a major product recall initiated after the balance sheet date also fall into this category. While these events are significant, they represent new conditions, not corrections or clarifications of conditions existing at the reporting date.
Disclosure Requirements
The treatment of subsequent events in financial statements depends on their classification as either adjusting or non-adjusting.
Adjusting events directly impact the financial figures reported. The amounts recognized in the financial statements must be adjusted to reflect this new information. For example, if a lawsuit settlement confirms a liability that existed at year-end, the company’s liabilities and potentially its expenses would be altered to reflect the final settlement amount. These adjustments are made to the actual numbers presented within the balance sheet, income statement, or statement of cash flows.
Non-adjusting events, conversely, do not lead to changes in the financial statement numbers. Instead, if material, they require disclosure in the notes to the financial statements. This disclosure informs users of developments that occurred after the reporting period but before the statements were issued, as these events can impact the company’s future financial position or operations. The notes should describe the nature of the non-adjusting event and provide an estimate of its financial effect. If a reliable estimate cannot be made, the company must state that fact.