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bilities should be valued based on the probability of occurrence. fn 1 Accordingly, consideration should
be given, particularly in the assessment of solvency, to the valuation of contingent claims based on the
likelihood of liability and the related probabilities.

Certain agreements that have previously been appropriately accounted for in accordance with GAAP
may require recharacterization during the Chapter 11 process. If an agreement previously accounted for
as either an operating lease or capital lease is recharacterized by consent or court order as a secured fi-
nancing, the accounting should prospectively reflect this legal determination. With respect to a recharac-
terized capital lease, a capital lease asset and obligation should be replaced with an owned asset and re-
lated liability. With respect to a recharacterized operating lease, an owned asset and related liability
should be established.

Similarly, with any agreement previously accounted for as a sale of an asset that is recharacterized by
consent or by court order as a conditional sale or retention of a security interest, the accounting should
prospectively reflect this legal determination. With respect to the recharacterized sale in which the re-
porting entity is the seller, conditional ownership should be established. With respect to a recharacter-
ized sale in which the reporting entity is the buyer, the conditional rights and liability should likewise be
established.

Statement of Operations

Paragraphs 9–12 of FASB ASC 852-10-45 explain how to report bankruptcy- and reorganization-related
items in the statement of operations that a debtor may issue during the period of reorganizing under
Chapter 11.

In financial reporting during Chapter 11, the debtor must clearly separate activities related to normal op-
erations from those related to the Chapter 11 reorganization. Thus, revenues, expenses (including pro-
fessional fees), realized gains and losses, and provisions for losses resulting from Chapter 11 reorganiza-
tion and restructuring are separately reported. According to FASB ASC 852-10-45-9, items related to
the reorganization (except for discontinued operations and extraordinary items, which are already re-
ported separately) should be reported in a separate category within the income (loss) from operations
section of the statement of operations. The operating statement that relates to the reporting of reorgani-
zation items is illustrated as follows:

Earnings before reorganization items and income $47
tax benefits
Reorganization items:
Loss on disposal of facility (60)

Professional fees (50)
Provision for rejected executor contracts (30)
Income from cancellation of debt 20

fn 1 See Xonics Photochemical, Inc., 841 F.2d 198, 200 (7th Cir. 1988); FDIC v. Bell, 106 F.3d 258, 264 (8th Cir. 1997); and Covey
v. Commercial Nat’l Bank, 960 F.2d 657, 660 (7th Cir. 1992).

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