On 30 January 2013, the Financial Reporting Council (FRC) announced a consultation on its proposed guidance for directors and standards for auditors on implementing the recommendations of the Sharman Panel of Inquiry into Going Concern and Liquidity Risks (Inquiry). Click here to see a copy of the consultation.
The Panel, led by Lord Sharman, was commissioned in March 2011 to investigate the ways in which companies assess and report going concern and liquidity risks and to recommend any measures which are necessary to improve the existing reporting regime and related guidance. See our articles in the June 2011 and November 2011 newsletters for background information on the Inquiry.
On 13 June 2012, the Panel published its final report and recommendations from which the FRC concluded that boards of companies complying with the FRC's Corporate Governance Code should:
- consider the threats to the company's business model and capital adequacy over a period longer than 12 months whilst looking through the economic cycle and the company's own business cycle
- develop a high level of confidence that solvency and liquidity risks can be managed effectively during the period of at least 12 months from approval of the financial statements
- always disclose the significant risks to the company's solvency and liquidity and how they are being managed as part of its discussion of principal risks in the business review, and
- confirm that it has undertaken a robust going concern assessment. In addition, it was recommended that auditors should consider the board's report on the robustness of its assessment and the resulting disclosures in the annual report and confirm that they have nothing to add or highlight for attention.
The FRC has set out the key changes to the going concern assessment and reporting processes in the consultation paper. Some of these key proposals are set out below.
Primary purpose of assessment
The new guidance proposes that assessment of the company as a going concern should be integrated with on-going business planning and risk management of the business and that the primary purpose of such assessment is to reinforce responsible behaviour in the management of going concern risks, rather than to conclude whether the going concern basis of accounting is appropriate.
All available information about the future should be considered by the board, which should also have regard to the foreseeable future (which has no maximum period), that is, what the board knows or should reasonably be expected to know about the future. The board's active consideration should be sufficient to obtain a high level of confidence that the solvency and liquidity risks can be managed effectively over a period of at least twelve months from approval of the financial statements. The degree to which periods beyond one year are actively considered should be broadly consistent with what is necessary to effectively manage the business, taking into account the nature of its activities, industry conditions and its position in the business cycle.
The focus of the assessment should be on solvency and liquidity risks (whereas previously the focus was on liquidity risks only) with consideration being given to the impact of such risks on shareholders, creditors and other stakeholders having regard to the duties of the directors under the Companies Act in pursuing the success of the company.
It is proposed that the threshold for judging the company to be a going concern for the purpose of making the statement required under the Code and Listing Rules should be when "for the foreseeable future, there is a high level of confidence that it will have the necessary liquid resources to meet its liabilities as they fall due and will be able to sustain its business model, strategy and operations and remain solvent, including in the face of reasonably predictable internally or externally-generated shocks." There is also proposed guidance to assist in establishing a common understanding of the threshold for disclosure of material uncertainties.
Other key proposals
Supplementary guidance for banking sector
The consultation paper also introduces supplementary guidance (Supplement) for banks which addresses particular issues relating to the going concern risks affecting the banking sector. In its final report, the Panel set out its views about the special considerations for banks and why it concluded that it was not necessary to develop a separate disclosure regime for banks and their auditors in relation to the going concern assessment. The background (with relevant updates), the rationale for this conclusion and supplementary guidance for banks has been set out in the Supplement. The Supplement confirms that liquidity support from central banks may be a normal funding source for banks and reliance on such support does not necessarily mean that the bank is not a going concern, or that material uncertainties should be disclosed.
Amendments to International Standards on Auditing (UK and Ireland) (IAS)
The FRC has also proposed a number of amendments to the IAS which are aimed at enhancing the role of the auditor in relation to going concern.
The closing date for responses is 28 April 2013. It is currently envisaged that the revised guidance for directors, the Supplement and the IAS amendments will be issued by 30 June 2013 for implementation for financial years ending on or after 1 October 2013, complementing the Government's suite of proposals in relation to narrative reporting which will also come into effect for the same accounting periods.