Going concern obligations
The Australian Accounting Standards requires an entity’s Board to assess whether it is a going concern when preparing financial accounts. An entity may be assessed as a going concern unless the Board intends to liquidate the entity or to cease trading, or has no realistic alternative but to do so. If the Board determine that the company can continue in operation for the foreseeable future, and at least the next 12 months, then they can prepare their accounts on a going concern basis. The entity’s auditor is separately required by Australian Auditing Standards to review the directors’ going concern assumption and to determine if in the auditor’s judgment, there are events or conditions which cast significant doubt on the company’s ability to continue as a going concern. The directors’ judgment is not whether an entity is a going concern today, but rather a continuing going concern.
How to assess going concern during COVID-19
The guidance sets out an overview of going concern and the obligations and responsibilities of directors and auditors, as summarised above. The most important section of the guidance is a list of indicators that management should consider when trying to assess going concern, such as unavailability of resources or breaching loan covenants. There is a specific section on indicators for NFPs including factors like an inability to hold fundraising events. An appendix to the guidance provides an additional useful list of indicators.
The guidance then sets out mitigating strategies that directors and managers might consider when issues are raised in relation to going concern, including government stimulus or support, sale of liquid assets and capital raising. Special cases, such as how to make going concern assessments where entities have gone into hibernation due to government shutdowns are also discussed. As the guidance notes, just because an entity is in hibernation it does not necessarily mean that it is not a going concern.
The indicators on going concern assessment and mitigation factors also function as a useful baseline for disclosures in financial reports. This is true not just for entities facing issues around going concern, but for those making disclosures on business strategies and future prospects in directors’ reports and/or operating and financial reviews.
The guidance notes the effect of the going concern assessment on other areas of the financial statements and the need for consistency with cash flow estimates, impairment testing and fair value measurement.
On specific disclosure around going concern, the guidance talks about different categories of disclosure and matters that boards should consider disclosing. This includes circumstances where no issues are identified, where issues are identified but resolved, where there is a material uncertainty and where the entity is assessed as no longer being a going concern.
Much of the guidance covers the auditor’s responsibilities in reviewing the going concern assessment and reporting on it; it asks auditors to pay particular concern to this as an issue. This is useful reading for directors and it should form the basis for discussions between directors and auditors over the auditor’s role and the professional scepticism they are asked to bring. It assists preparers of financial statements if they also think of the perspective of the auditor when pulling them together.
The other topic discussed in the guidance is solvency declarations. Annual financial reports (and half-yearly reports for listed companies) must contain a director’s declaration that the entity is solvent; that is whether, in the directors' opinion, there are reasonable grounds to believe that the company will be able to pay its debts as and when they become due and payable. Again, for audited financial reports this statement will be subject to independent audit.
The guidance looks at the obligations around solvency declarations, how it interacts with going concern and how disclosure around solvency should occur. Reference is made to ASIC’s guidance on solvency declarations, which should be the primary source for boards who are grappling with this issue - see here.
AICD comment and next steps
Both the AASB and AUASB are to be congratulated for producing this publication. As far as the AICD is aware it is the most comprehensive guidance provided by any global standard setting body in response to the COVID-19 crisis. Much like their work on assessing materiality of climate related risk in financial reporting, the Australian bodies are leading the way internationally. Together with ASIC’s FAQ it provides a useful roadmap for directors navigating their reporting responsibilities in this period.
The AICD intends to shortly publish additional guidance of its own, in conjunction with the professional accounting bodies, that will bring together all the information provided by regulatory bodies and standard setters on reporting and periodic disclosure during COVID-19 and provide a basic checklist for directors, preparers of financial statements and auditors.
The AICD also has produced FAQs for members on reporting issues during COVID-19 which are available here.