Feedback for Text PAQ 12.29: Assessing going concern

Required

(a) Identify the factors that would raise questions about the going concern assumption for MMF. Are there any mitigating factors?

(b) What reporting options are available to the auditor of MMF? Discuss.

Refer to ASA 570 in your answer.

(a) Factors indicating a going concern issue:

Drop in demand for products based on general economic conditions and increased competition
High gearing (high debt/equity ratio) means little capacity for further borrowing
Recent borrowings due for renewal 3 months after year-end, but no agreement reached with the bank
Potential difficulties borrowing from other banks because of economic conditions and fall in demand for entity’s products

Mitigating factors:

High expertise within the company suggesting ability to make new sales contracts despite economic conditions and competition
Borrowings were used to purchase assets which have potential resale value
Ongoing negotiations with another bank to refinance debt
Possible cost-cutting (e.g. staff layoffs could be explored)

(b) Audit reporting options are detailed in ASA 570 Going Concern – See the flowchart in Appendix 1 (Linking going concern considerations and types of audit opinion). Essentially, the auditor must consider the degree of uncertainty surrounding the going concern and assess the adequacy of management’s disclosures in the financial report. The greater the degree of uncertainty around the going concern assumption and the less satisfactory the management’s disclosures, the more likely that the auditor will qualify the audit report. An emphasis of matter paragraph could be added to draw the reader’s attention to the doubts and mitigating factors if the auditor believes that the management has made sufficient disclosure.

The flowchart in ASA 570 could be summarised as follows:

If there is not sufficient appropriate audit evidence on which to base an opinion
- Express a qualified opinion or disclaimer of opinion due to limitation of scope
If the doubts about entity’s ability to continue as a going concern are not significant, the audit report would be unqualified.
If the doubts are significant but the additional audit procedures confirm the appropriateness of the going concern assumption, then if the mitigating factors are
- adequately disclosed, the audit report is unqualified
- not adequately disclosed, the audit report is qualified for inadequate disclosure
If the doubts are significant and the additional audit procedures do not confirm the appropriateness of the going concern assumption,
- if there is adequate disclosure of all material uncertainties in the financial report, the audit report is unqualified with an emphasis of matter paragraph
- if there is not adequate disclosure of all material uncertainties in the financial report, the audit report is
  - qualified for inadequate disclosure if the matter is not pervasive
  - adverse opinion for inadequate disclosure if the matter is pervasive
If there is significant doubt the entity will continue as a going concern

Adverse opinion for inadequate disclosure … in other words there is a disagreement with those charged with governance about disclosures required by the accounting standards not being followed that have a pervasive impact on the financial report such that they do not present a true and fair view.