Companies and their auditors must periodically assess whether there is substantial doubt about the company’s ability to continue as a “going concern.” In normal times, this evaluation at major public companies usually results in the conclusion that the company doesn’t face going concern issues. But as this Gibson Dunn memo points out, these aren’t normal times, and going concern questions are on the front burner at many more companies than in years past.
The memo walks through the AICPA, FASB & PCAOB standards that apply to the going concern analysis, and the differences in the obligations imposed on issuers & outside auditors under them. It also addresses the implications that Covid-19 uncertainties may have for the analysis:
The list of adverse events set out in AS 2415 and Subtopic 205-40 that could potentially call a company’s viability into question includes items such as negative operating trends, work stoppages, and loan defaults. In some cases, the ultimate outcome of those events or circumstances will be uncertain at the time of management’s or the auditor’s assessment. The COVID-19 pandemic, however, raises a set of global uncertainties—concerning areas from public health to financial markets—whose complexity is an order of magnitude greater than that of the circumstances that may drive an entity’s going-concern analysis in normal times.
While Subtopic 205-40 requires only that an entity assess its ability to meet its obligations based on “relevant conditions and events that are known and reasonably knowable at the date that the financial statements are issued,” and AS 2415 similarly requires only that the auditor consider “his or her knowledge of relevant conditions and events that exist at or have occurred prior to the date of the auditor’s report,” both issuers and auditors should be aware that regulators and private plaintiffs will later assess their actions with twenty-twenty hindsight.
The memo says that in an environment like this, management & auditors should make, document & disclose their going concern evaluation process, the factors that could affect its ability to meet its obligations, and what is known and unknown about those factors and their implications. Finally, they need to make and document a good-faith assessment of how likely it will be that one or more of those factors will cause the company to be unable to meet its obligations during the relevant assessment period.
Going Concern: Covid-19’s Toll So Far
While Gibson Dunn’s memo focuses on issues companies and auditors must address when making a going concern assessment This recent Audit Analytics blog provides some input on the toll that Covid-19 has already taken when it comes to “going concern” conclusions:
As of May 20, 2020, there have been 30 audit opinions for SEC-registered public companies that have cited the COVID-19 pandemic as a contributing factor to substantial doubt about a company’s ability to continue as a going concern for the next twelve months. Of the 30 companies that received a going concern audit opinion citing COVID-19 as a contributing factor, 14 were issued their first going concern opinion within the last five years. This means that more than half of the companies receiving a going concern modification in their audit opinion citing COVID-19 were previously experiencing difficulties that could impact their ability to continue operating prior to the pandemic.
The blog reviews the disclosures made by companies that have cited Covid-19 as a contributing factor to a going concern qualification. Interestingly, for most of these companies, Covid-19 “unknowns” haven’t been the primary trigger for going concern issues. Instead, the blog says that going concern qualifications have been triggered primarily by the pandemic’s impact on other areas, such as a company’s inability to operate & subsequent liquidity concerns.
Cheat Sheet: Acquired Company Financials
If you’ve followed my blogs over the years, you know that aside from finding something that gives me an excuse to blog about celebrities, there’s nothing I like more than a good cheat sheet. This handy 2-pager from Latham & KPMG walks you through the process of determining whether you need to include acquired company financial statements in your registration statement – and yes, it’s been updated to reflect the SEC’s recent rule changes. Check it out!
– John Jenkins