In September 2019 the Financial Reporting Council (FRC) issued a revised International Standard on Auditing – ISA 570, Going Concern. This will be applicable to all audits for periods commencing on or after 15 December 2019. This ISA was updated as a response to many high profile corporate failures such as BHS, Carillion and Thomas Cook in which the auditors faced criticism that they did not do enough to highlight concerns about the future viability of these companies prior to their collapse.
Since the start of 2020, the entire world has become a different place. Within a matter of only a few months, Coronavirus (COVID-19) has swept across the world, shutting down nations, closing borders and halting the economy. Schools and public places have closed, events have been cancelled, and members of the public have to abide by new social distancing and isolation rules. The UK Government are responding with various packages of support, but the long term effect of this is currently unknown.
This article will consider the revised ISA 570 and the impact of this on auditors and charities. This is particularly relevant today as charities look to the future and assess the impact of COVID-19.
COVID-19 and the impact on Going Concern assessments
The FRC has issued several briefings in response to COVID-19 and is clear that organisations, and audit committees, must understand it is vital that auditors have sufficient time and support from management to document their assessment and to update these as changes occur. The advice and support from the Government is changing daily as well as the requirements on organisations, which means that management will be updating and revising their going concern basis. Auditors have to revisit their work in this area – from closing venues, cancelling events to self-isolation of employees – these are challenging and evolving times. Future forecasts will need to flex and probably include a variety of potential scenarios occurring in order to assess the impact of COVID-19 on the ability of the entity to continue to operate as a going concern.
Some factors that entities may need to consider due to COVID-19 include:
- What impact are the lockdown measures having on demand for the charities services/funds?
- Can the charity/entity continue to operate if staff are not able to be physically present and, if so, for how long?
- What other impact has COVID-19 had to date?
- Can staff work remotely?
- Have any restrictions been imposed which have reduced or suspended activities? Is the entity able to continue to provide services as normal or adapt?
- Will the entities insurance policies cover any losses arising from the coronavirus and if so, how long it might take for a pay-out to be received?
- Are there additional costs to account for as a result of the pandemic, for example, increased cost in supplies, redundancy costs, restart costs once the crisis is over?
- Are there any anticipated cost-savings to account for while in lockdown, for example, reduction in travel, office costs, furloughing staff?
- If the lockdown is having a significant impact, how long can the entity/charity survive?
ISA 570 – What has changed and why?
The financial reporting frameworks applicable in the UK generally require the adoption of the going concern basis of accounting in financial statements, thus confirming that the entity is able to continue in existence for at least 12 months from the date of signing the Audit Report. The going concern basis will not be appropriate where management intends to liquidate the entity or to cease trading, or has no realistic alternative to liquidation or cessation of operations.
The revised ISA has more requirements and guidance for auditors in assessing whether a material uncertainty related to going concern exists; and the appropriateness of management’s use of the going concern basis.
The revised standard requires:
- the auditor to more robustly challenge management’s assessment of going concern to thoroughly test the adequacy of the supporting evidence and evaluate the risk of management bias;
- a new reporting requirement for the auditor of public interest entities, listed and large private companies to provide a clear, positive conclusion on whether management’s assessment is appropriate, and to set out the work they have done in this respect; and
- a stand back requirement to consider all of the evidence obtained, whether corroborative or contradictory, when the auditor draws their conclusions on going concern.
The definitions in relation to what constitutes a ‘material uncertainty’ and a definition of the term ‘management bias’ are as follows:
Impact on the audit approach
There is a greater need for auditors to document how they have challenged management’s going concern assessment. This requires a detailed review and assessment of assumptions used, the risks behind those estimates within the budgets, cashflows and forecasts, how this fits in with the auditors knowledge of the business, the wider economy and therefore the appropriateness of the going concern basis. This means that there will be a significant drill down and rigorous testing undertaken on how management has demonstrated its going concern status and the evidence provided to the auditors.
In practice for many auditors and clients there may be little difference to the work undertaken where they have followed best practice and been robust in carrying out their going concern work. However the ISA is very prescriptive on the requirements to be documented and inevitably there will be additional documentation required to support the conclusions on the audit file. The ‘stand back’ requirement, which requires the auditor to consider all the evidence obtained before concluding on the going concern basis needs to be formally documented.
Impact for Charities
The amount of additional work this will place on charities will very much depend on custom and practice and will vary depending on the size and complexity of the organisation, its income streams and their predictability and risk involved. However, as indicated above, it will inevitably involve additional time and cost for both charities and their auditors to a varying degree.
All entities can continue to expect discussions with their auditor at both the planning and closing meetings, but perhaps much more focus at the planning meeting than in the past. For charities with significant estimates in their budgets and forecasts, auditors will continue to need to assess the evidence provided on risk areas, like new and ongoing grants or contracts, copies of the legacy book and any significant correspondence post year-end, confirmation of income from memberships, donations income projections and assumptions, details of investments decisions or disposals and evidence of strategic management decisions within Board meeting minutes.
As already noted, such forecasts and budgets may well need to demonstrate various scenarios to show how the entity would survive regardless of the outcome and particularly so as a result of external factors – most recently the impact of COVID-19.
Auditor reporting requirements
Financial statements will refer to the going concern assessment in the Directors / Trustees’ Report, in the accounting policies and in the Audit Report. All key messages and conclusions must be consistent throughout the financial statements. Management have to assess the going concern basis and provide evidence to support this 12 months from the signature date on the accounts – a shorter period is not sufficient evidence.
Where there is no material uncertainty in relation to going concern the Audit Report will include:
- A statement that the auditor has not identified a material uncertainty that may cast doubt on the entity’s ability to continue as a going concern for a period not less than 12 months from the date of approval of the financial statements.
- A conclusion that management’s use of the going concern basis of accounting in the preparation of the entity’s financial statements is appropriate.
- For PIES, listed entities and those applying Corporate Governance Code, further disclosure requirements on how this assessment has been evaluated.
Where the auditor considers that there is ‘material uncertainty related to going concern’ to be included in the auditor’s report, or that it is necessary to issue a qualified, adverse or disclaimer of opinion in respect of matters related to going concern, they have to consider their requirements to report to a regulator or authority outside of the entity and how to manage this reporting requirement.
The revised ISA570 on Going Concern requires more reporting by both auditors and charities in the UK to ensure that the underlying budget assumptions and forecasts are realistic and free from management bias and that they are a realistic representation of events, influenced by both internal and external factors, occurring after the year-end.
Charities should not forget their responsibilities for serious incident reporting if there are any issues related to the going concern of the organisation. For further details, please see:
As always, please talk to your Price Bailey contact if you have any queries or concerns about matters raised in this article.
This post was written by Suzanne Goldsmith, Senior Manager at Price Bailey. If you have any questions on the above or are considering making a claim, please contact your usual Price Bailey point of contact or Suzanne using the form below.
We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.