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The worldwide COVID-19 pandemic has affected businesses of every size in every country, and the United States has been hit particularly hard. Many businesses are facing increasing doubts about their ability to continue as a going concern, and the decisions that surround that determination have an impact on both management and auditors. The authors provide an overview of FASB, PCAOB, and AICPA guidance regarding going concern issues, then discuss how these standards apply to federal programs designed to aid businesses during the pandemic, particularly those created by the CARES Act.
Currently, the United States is in the midst of the worldwide coronavirus (COVID-19) pandemic, which is stretching business and government resources alike. Representational faithfulness and transparency in financial reporting is essential to stakeholder decisions in this environment. The need for proper disclosure of financial condition is critical to the survival of the relevant financial accounting and reporting frameworks, as well as the audit profession.
The SEC recently acknowledged that in today’s business climate, historical information may be significantly less relevant than before. The SEC is urging companies to provide robust, forward-looking discussions in earnings releases and investor and analyst calls regarding their operational and financial standings, management’s COVID-19 response, and how operations and financial condition could change moving forward (Jay Clayton and William Hinman, “The Importance of Disclosure—For Investors, Markets, and Our Fight Against COVID-19,” Apr. 8, 2020, https://bit.ly/3aUL3rH). All stake-holders would benefit from an update on the current state of going concern guidance in financial reporting and auditing for large, medium, and small business entities.
This article provides an in-depth analysis of going concern responsibilities for managers and auditors of public and non-public business entities in an effort to both synthesize and clarify similarities and differences in regulatory standards. It also discusses steps that managers can take to both evaluate and alleviate uncertainties to a level where the business can continue to operate as a going concern. It concludes with pertinent information for CPAs advising or auditing small business clients during the COVID-19 pandemic.
COVID-19’s Impact on Business
That the economic fallout of the COVID-19 pandemic is disrupting business is undisputed. Companies in certain industries, such as travel and dining, are seeing drastic effects on financial results. For example, United Airlines reported in a recent Form 8-K that it expected daily revenues to be $100 million lower in March 2020 than March 2019. Similarly, the parent company of Chuck E. Cheese reported a 21.9% decline in same-stores sales in Q1 2020 versus Q1 2019, which it attributes to the closure of “on-premise dining, entertainment, and arcade rooms.” Note that January and February results, before COVID-19 caused widespread closures.
Even companies that remain operational have been affected financially by the pandemic. For example, manufacturing company Regal Beloit reports that it has drawn $255 million on its line of credit, even though it “has a strong balance sheet and does not currently intend to use the borrowed proceeds, but believes an abundance of caution regarding its cash position is prudent at this time.”
A financial accounting report, regardless of an audit, reflects the assumption that the business entity will continue as a going concern until it is liquidated. An asset liquidation generally has a negative effect on all stakeholders, including investors, creditors, accountants, managers, and the government. Financial statements, including balance sheets and income statements, do not purport to convey the market or liquidation value of an entity; however, managers and auditors must assess and disclose any uncertainties regarding the continuity of business operations on an interim and annual basis. The purpose of such disclosure, in the notes that accompany the financial statements and in the audit opinion, is to both inform and warn stakeholders of the risks surrounding the ability of the entity to meet its obligations on an ongoing basis.
Now more than ever, there is heightened scrutiny around the ability of business entities to continue as a going concern. CPAs must ensure that they are following the proper audit guidance and that they are advising clients on how to assess, evaluate, plan for, and report any substantial doubts surrounding clients’ ability to meet their obligations on an ongoing basis.
The responsibility to prepare financial statements on a going concern basis under U.S. GAAP and the International Financial Reporting Standards (IFRS) falls on management. FASB provides guidance on when and how to disclose going concern uncertainties in Accounting Standards Update (ASU) 2014-15, Presentation of Financial Statements—Going Concern: Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern, codified in Accounting Standards Codification (ASC) 205-40. This covers all businesses that prepare GAAP-compliant financial reports, including those in compliance with the Private Company Council (PCC) alternative reporting framework.