Research continues for planned going concern standard

The PCAOB’s staff is continuing to research whether the board’s standard on going concern evaluations needs to be revised to accommodate the accounting changes from the FASB that now require company managements to assess their business’s financial viability, PCAOB Chief Auditor Martin Baumann recently said.

Section 10A of the Securities Exchange Act of 1934 and PCAOB Auditing Standard (AS) 2415, Consideration of an Entity's Ability to Continue as a Going Concern, formerly AU Section 341, require auditors to assess a public company’s prospects for staying in business. The evaluations are based on whether there is “substantial doubt” about a company’s ability to continue business operations. If there is, the auditor needs to report it in the auditor’s opinion.

Companies did not have to make similar disclosures until the FASB issued Accounting Standards Update (ASU) No. 2014-15, Presentation of Financial Statements—Going Concern (Subtopic 205-40): Disclosure of Uncertainties About an Entity’s Ability to Continue as a Going Concern, to require management to alert investors if they had “substantial doubt” about the company’s survival. The standard became effective for annual periods ending after Dec. 15, 2016.

The FASB defines substantial doubt using a threshold of “probable” that a company will not be able to pay debts as they come due during the next 12 months. The PCAOB has not chosen to adopt the FASB’s definition of substantial doubt, and Baumann said an auditor’s evaluation under PCAOB requirements uses a qualitative assessment that, in many instances, covers a broader set of issues than the FASB’s guidance. The board in September 2014 issued Staff Audit Practice Alert (APA) No. 13, Matters Related to the Auditor's Consideration of a Company's Ability to Continue as a Going Concern, to emphasize that the current audit standard remains in effect.

Because management and auditors now have different thresholds for evaluating a company’s ability to stay afloat, the PCAOB staff, among other things, has been monitoring how companies and auditors are applying the different rules to study whether changes are needed to audit standards, Baumann said during a May 24, 2017, meeting of the PCAOB’s Standing Advisory Group (SAG) in Washington.

For example, Baumann said the staff has been examining 2016 year-end financial statements filed with the SEC in which auditors reported that substantial doubt existed.

“The staff is particularly interested in understanding situations in which auditors reported substantial doubt existed, but management did not,” Baumann said. Management might have had other types of disclosures, saying they have certain concerns or conditions about their operations, but they did not report substantial doubt about the company’s survival.

“We are continuing to evaluate these reports,” Baumann said.

He said the staff is also looking at research by Audit Analytics, which will provide the total number of financial statements with substantial doubt reports, to see if there are trends that emerge from year to year.

Moreover, Baumann said the staff is also continuing to study situations where auditors did not give substantial doubt opinions about a company’s ability to continue operating, but the company failed within the next several months. In such cases, he said the staff is considering the prospect of strengthening the board’s standards.

The board’s Investor Advisory Group (IAG) has previously said the standards need to be improved because of the failure by many auditors to warn the markets about the severe problems banks were having prior to the 2008 financial crisis.

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