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: Jim Hamilton's World of Securities Regulation

By Jim Hamilton

UK Accouting Regulator Proposes Changes to Directors Going Concern Report to Reflect IFRS

The UK Financial Reporting Council has proposed revisions to its guidance for directors going concern and financial reporting in light of the adoption of international financial reporting standards and the ongoing financial crises. The listing rules of the Financial Services Authority require the annual reports of listed companies to include a statement by the directors on the going concern status of the company. In making their statement, directors are required to consider the going concern guidance. In addition to the listing standards, the UK corporate governance Combined Code states that directors should report on the business as a going concern, with supporting assumptions or qualifications as necessary. Comments on the proposals are invited until Nov 24, 2008.

Since the guidance was adopted in 1994, there have been substantial changes to accounting standards. In particular, noted the FRC, substantial additional disclosures are required about how liquidity risks are managed, the maturity profile of liabilities, and details of any defaults on borrowing covenants. The FRC also observed that current economic conditions are creating particular challenges for companies. Recent developments in global debt markets have led banks to be cautious of lending to one another, which has severely restricted liquidity and created unexpected financial difficulties for banks and entities that depend on the availability of loans as a key source of capital.

First off, the FRC reaffirmed that the use of the going concern basis of accounting is so fundamental to the preparation of financial statements that directors should make an explicit written statement in their annual report that they are satisfied that the going concern assumption remains appropriate. The going concern concept is a fundamental accounting concept that underlies the preparation of financial statements. The Companies Act of 2006 requires that the company be presumed to be carrying on business as a going concern.

In assessing going concern, said the FRC, directors should take account of all information of which they are aware at the time. It is not possible to specify a minimum period to which they should pay particular attention in assessing going concern. The FRC recognizes that any such period is artificial and arbitrary. When the period considered by the directors has been limited, for example, to a period of less than one year from the date of approval of the financial statements, the directors should determine whether, in their opinion, the financial statements require any additional disclosure to explain adequately the assumptions that underlie the adoption of the going concern

Consistent with IFRS, budgets and forecasts for the entity as a whole should be prepared to cover the period to the next balance sheet. The onus is on the directors to be satisfied that there are committed financing arrangements in place. IFRS 7 requires disclosure of defaults on borrowings and certain breaches of covenants. Directors should also consider the company?s exposure to contingent liabilities such as legal proceedings and environmental clean up.

There are many types of financial risk facing a company, sad the FRC, and directors should identify which risks are most significant to their company. IFRS 7 requires directors to disclose what financial risks they face and their objectives and polices for managing these risks.

Directors should include their statement on going concern in the Business Review section of the directors? report. Directors should also consider whether there needs to be a specific cross reference between the going concern statement in the Business Review section and the accounting policy note in the financial statements.

After directors have conducted the going concern analysis, they are four conclusions they can reach, with the fourth one newly proposed. First, that they have a reasonable expectation that the company will continue in operatio and have therefore used the going concern basis in preparing the financial statements. Second, that they have identified factors which cast doubt on the ability of the company to continue in operation but they consider it appropriate to use the going concern basis in preparing the financial statements.

Third, that they consider that the company is unlikely to continue in operation and therefore the going concern basis is not appropriate. Fourth, added by the proposal, that they have identified material uncertainties that may cast significant doubt on the ability of the company to continue as a going concern; and so additional disclosures are required by IFRS.

Full post as published by Jim Hamilton's World of Securities Regulation on August 30, 2008 (boomark / email).