By Barry Truswell, Head of Audit at accountants Chiene + Tait
Following the collapse of construction and services firm Carillion and other recent high profile corporate failures, including Patisserie Valerie and BHS, the issue of ‘going concern’ is one that should be high on the agenda for all those responsible for running a business.
In business terms, a going concern is defined as a company that is assumed to be able to meet its financial obligations when they fall due and can function without the threat of liquidation for the foreseeable future, usually regarded as the next 12 months.
Directors have long been required to fulfil their responsibility for ensuring that the business can continue as a going concern and are expected to understand how to conduct a going concern assessment, which may also involve them including any relevant disclosures within the company’s financial statements.
While large businesses, including the aforementioned, would typically have a team of accountants and lawyers to guide and advise them on going concern-related issues, most SMEs don’t have this in-house expertise at their disposal to keep directors on track regarding their responsibilities.
The issue of going concern has come into even sharper focus now for two key reasons. Firstly, revisions to auditing standards that will apply to all year end audits from January onwards, require auditors to take a more robust and rigorous approach in challenging company directors (and charity trustees) evaluation of any potential uncertainties that may cast significant doubt on the ability of a business to continue as a going concern.
Secondly, the challenging trading conditions many businesses are currently facing due to the pandemic could be putting their ability to continue trading at risk.
These factors place an increased onus on company directors in making their assessment of the presumption that their business will remain a going concern.
In making this assessment, SMEs are typically not required to provide the same level of detailed in their analysis compared with larger firms. However, as a minimum their assessment should include a budget and cash flow forecasts as well as an overview of any borrowing requirements or facilities required for their business.
While this may be extremely challenging in the current economic climate, they must also include assumptions about access to loan facilities to identify any possible financial shortfalls, and an outline of realistic mitigating actions they may need to consider if there is not enough headroom. Producing a range of forecasts can help identify what business-critical decisions need to be made, and when.
The financial statements should present a ‘true and fair view’ of a company’s financial position and, especially within the current circumstances, highlight any uncertainties relating to going concern in the accounts along with measures taken to mitigate these. This will enable those using the accounts, including shareholders and lenders, to understand the impact that COVID-19 is having on the business.
For businesses whose financial statements are audited, it’s the responsibility of their auditor to obtain sufficient appropriate evidence to support the assessment made by management. The clear disclosure of any uncertainties in the notes to the accounts is therefore important in ensuring a clean audit report.
In the current economic environment, the importance of considering going concern and financial sustainability has been further elevated. The tougher audit standards adds emphasis to company directors’ responsibilities so they must therefore ensure they are fully reacquainted with these obligations and able to fulfil them.
Failure to do so could raise concerns with lenders, suppliers and other stakeholders and, in some cases, directors could find themselves personally liable if they fail to meet their responsibilities.
The new standards mean that many businesses are likely to see an increase in the auditors’ work to meet the more prescriptive requirements. This may be essential in helping keep a company’s directors on the right track and avoid the potential consequences of non-compliance.