From an accounting perspective, when one is attemping to assess if a liability should be classed as a contingent liability. Rules specify that contingent liabilities should be recorded in the accounts when it is probable that the future event will occur and the amount of the liability can be reasonably estimated. With respect to court cases, independent legal advice can be sought as to the likelihood of a claim being awarded against a company, reviewing precedent cases, or asking a company to explain why they have created such a provision (if this is not adequately discussed in the notes to the financial statements).
I do agree that independent legal advice should be sought during the due diligence phase, especially if the contingent liabilities are not adequately disclosed in the annual report of the target company. The cost of seeking legal advice is certainly lower than that of bearing the repercussions arising from the improper disclosure of contingent liabilities (which may eventually result in hefty litigation costs). Therefore, it always crucial to do your research thoroughly before putting pen to paper.
We can request a representation from the targets attorneys asking them to provide a description of all material litigation, claims, and assessments (excluding unasserted claims and assessments). The description should include (1) the nature of the litigation, claim or assessment; (2) the progress of the matter to date; (3) how management is responding or intends to respond to the litigation, e.g., to contest the matter vigorously or to seek an out-of-court settlement, and (4) an evaluation of the likelihood of an unfavorable outcome and an estimate, if one can be made, of the amount or range of potential loss. We should request them to express an upper limit on possible and probable loss, if possible. We should also ask them to provide representation of any unasserted possible claims that are probable of assertion.
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