Audit Procedures to be DONE when EVENTS or CONDITIONS that may cast doubt about GOING CONCERN have been Identified

As described within my previous post, Event or Conditions that may cast DOUBT about GOING CONCERN Assumption, if events of conditions have been identified that may cast significant doubt on the entity’s ability to continue as a GOING CONCERN, the auditor shall obtain sufficient appropriate audit evidence to determine whether or not a material uncertainty exists through performing ADDITIONAL AUDIT PROCEDURES, including consideration of mitigating factors.

As disclosed in paragraph 16 of ISA 570, the required additional audit procedures to be done shall include :

1. Where management has not yet performed an assessment of the entity’s ability to continue as a going concern, requesting management to make its assessment;
2. Evaluating management’s plans for future actions in relation to its going concern assessment, whether the outcome of these plans is likely to improve the situation and whether management’s plans are feasible in the circumstances;
3. Where the entity has prepared a cash flow forecast, and analysis of the forecast is a significant factor in considering the future outcome of events or conditions in the evaluation of management’s plans for future action : (i) Evaluating the reliability of the underlying data generated to prepare the forecasts; and (ii) Determining whether there is adequate support for the assumptions underlying the forecast;
4. Considering whether any additional facts or information have become available since the date on which management made its assessment;
5. Requesting written representation from management and, where appropriate, those charged with governance, regarding their plans for future action and the feasibility of these plans

Several audit procedures which are relevant to the requirement in paragraph 16 of ISA 570 may include the following :

1. Analyzing and discussing cash flow, profit and other relevant forecasts with management
2. Analyzing and discussing the entity’s latest available interim financial statements
3. Reading the terms of debentures and loan agreements and determining whether any have been breached
4. Reading minutes of the meetings of shareholders, those charged with governance and relevant committees for reference to financing difficulties
5. Inquiring of the entity’s legal counsel regarding the existence of litigation and claims and the reasonableness of management’s assessments of their outcome and the estimate of their financial implications
6. Confirming the existence, legality and enforceability of arrangements to provide or maintain financial support with related and third parties and assessing the financial ability of such parties to provide additional funds
7. Evaluating the entity’s plans to deal with unfilled customer orders
8. Performing audit procedures regarding subsequent events to identify those that either mitigate or otherwise affect the entity’s ability to continue as a going concern
9. Confirming the existence, terms and adequacy of borrowing facilities
10. Obtaining and reviewing reports of regulatory actions
11. Determining the adequacy of support for any planned disposals of assets

Evaluating management’s plans for future actions may include inquiries of management as to its plans for future action, including, for example, its plans to liquidate assets, borrow money or restructure debt, reduce or delay expenditures, or increase capital (HRD).

Events or Conditions That May Cast Doubt about GOING CONCERN Assumption

ISA 570 regarding Going Concern deals with the auditor’s responsibilities in the audit of financial statements relating to management’s use of the going concern assumption in the preparation of the financial statements.

As stated in paragraph 2 of ISA 570, under the going concern assumption, an entity is viewed as continuing in business for the foreseeable future. General purpose financial statements are prepared on a going concern basis, unless management either intends to liquidate the entity or to cease operations, or has no realistic alternative but to do so. Special purpose financial statements may or may not be prepared in accordance with a financial reporting framework for which the going concern basis is relevant. When the use of the going concern assumption is appropriate, assets and liabilities are recorded on the basis that the entity will be able to realize its assets and discharge its liabilities in the normal course of business.

Auditor is required by ISA 570 to obtain sufficient appropriate audit evidence about the appropriateness of management’s use of the going concern assumption in the preparation of the financial statements and to conclude whether there is a material uncertainty about the entity’s ability to continue as a going concern.

Therefore, it is necessary for the auditor to be able to identify events or conditions which may cast doubt about client’s ability to continue as a going concern.

Paragraph A2 of ISA 570 details several examples of events or conditions that, individually or collectively, may cast significant doubt about the going concern assumptions. Such listing is not all-inclusive nor does the existence of one ore more of the items always signify that a material uncertainty exists.

FINANCIAL

• Net liability or net current liability position
• Fixed-term borrowings approaching maturity without realistic prospects of renewal or repayment, or excessive reliance on short-term borrowings to finance long-term assets
• Indications of withdrawal of financial support by creditors
• Negative operating cash flows indicated by historical or prospective financial statements
• Adverse key financial ratios
• Substantial operating losses or significant deterioration in the value of asses used to generate cash flows
• Arrears or discontinuance of dividends
• Inability to pay creditors on due dates
• Inability to comply with the terms of loan agreements
• Change from credit to cash-on-delivery transactions with suppliers
• Inability to obtain financing for essential new product development or other essential investments

OPERATING

• Management intentions to liquidate the entity or to cease operations
• Loss of key management without replacement
• Loss of  a major market, key customer(s), franchise, license, or principal supplier(s)
• Labor difficulties
• Shortages of important supplies
• Emergence of a highly successful competitor

OTHER

• Non-compliance with capital or other statutory requirements
• Pending legal or regulatory proceedings against the entity that may, if successful, result in claims that the entity is unlikely to be able to satisfy
• Changes in law or regulation or government policy expected to adversely affect the entity
• Uninsured or underinsured catastrophes when they occur

The significance of such events or conditions often can be mitigated by other factors. For example, the effect of an entity being unable to make its normal debt repayments may be counter-balanced by management’s plans to maintain adequate cash flows by alternative means, such as by disposing of assets, rescheduling loan repayments, or obtaining additional capital. Similarly, the loss of a principal supplier may be mitigated by the availability of a suitable alternative source of supply (HRD).