​Business Process Outsourcing

Going concern assessment amid covid-19

Section 134(5) of the Companies Act, 2013 requires board of directors of every company to state in its Directors’ Responsibility Statement that they have prepared the annual accounts on a going concern basis.
 
Under going concern basis of accounting, the financial statements are prepared on the assumption that the entity is going concern and will continue its operations for the foreseeable future, unless management intends to liquidate the entity or cease the operations or has no realistic alternative to do so.

When the going concern basis of accounting is used, assets and liabilities are recorded on the basis that the entity will be able to realise its assets and liabilities in the normal course of business.

Because of the economic uncertainty created by the coronavirus (covid-19) coupled with significant business disruptions for entities across almost all sectors, there is likely to be an increase in events and circumstances which may cast significant doubt on a company’s ability to continue as a going concern.

Therefore, management may need to assess whether going concern assumption is still appropriate as a basis for the preparation of the company’s financial statements.

Further, the Indian accounting body and regulator of standards has issued guidelines which caste additional responsibilities on management and auditors to comment in current scenarios.

1. Management Considerations

The implications of covid-19 may not automatically result in existence of a material uncertainty. The increased risk of significant doubt on an entity’s ability to continue as a going concern will depend on the nature and circumstances of the entity, including the industry in which it operates. Some of the important considerations are highlighted as follows:

•  Assess what impact the current events and conditions have on an entity’s operations and forecasted cash flows, with a focus on whether the entity will have sufficient liquidity to continue to meet its obligations as they fall due.
• Consider the existing and anticipated effects of the covid-19 on the assumptions, in particular significant assumptions that are sensitive or susceptible to change or are inconsistent with historical trends.
• Assess specific matters relating to covid-19 like operating environment or liquidity.
• Risk relating to receivables (delays or failures of counterparties, requests for changes in payment terms).
• Risk that the parent company will no longer support the business.
• Impact of trade financing products such as letters of credit, forfaiting, shipping and payment terms, etc.

2. Disclosure

The required disclosures will depend on the facts and circumstances of each entity and their exposure to the current evolving environment. From covid-19 perspective, following disclosures should be provided:

• In case management has significant doubt about the entity’s ability to continue as a going concern, disclose the uncertainties, even if it concludes that no material uncertainty exists.
• When a material uncertainty exists, disclose the fact that entity’s ability to continue as a going concern is subject to a material uncertainty.
• Additional line items or sub-totals on the face of statement of profit and loss may be included to depict entity’s performance such as impairment adjustment.
• Enhanced disclosures regarding estimation uncertainty might be required, for instance, assumptions may be subject to a material change within the next period.
• Disclose any changes in financial risks such as credit risk, liquidity risk, currency risk and other price risk, and changes in objectives, policies and processes for managing those risks are expected.
• Additional disclosures about liquidity risk might be needed when covid-19 has affected cash flows from operations or the ability to access cash in other ways such as from government payments, factoring receivables or supplier financing.
• Update management’s analysis of principal risks and uncertainties that could affect the amounts reported in the financial statements or the functioning of the reporting entity.
• Additional disclosures in the board’s report or in an annual report (other than financial state¬ments and auditor’s report) need to be provided.

Accounting consideration relayed to impairment of assets

An impaired asset is an asset that has a market value less than the value listed on the company's balance sheet. When an asset is deemed to be impaired, it will need to be written down on the company's balance sheet to its current market value. Due to novel Coronavirus, many communities are affected which led entities to check if they are affected to the assets i.e. financial assets and working capital requirements.
 

1. Identify impairment indicator:

• Identification of cash generating unit (CGU) :

This applies to the smallest identifiable group of asset which generates future cash flows which is largely independent of the cash inflows from other assets of the organisation.

• Determination of recoverable amount:

This value is higher of fair value less cost of disposal required to sell off the value as compared to value in use.

If carrying amount (amount in balance sheet) is higher than the recoverable amount, then the entity needs to recognise the loss in the books and consider the necessary disclosures required as per applicable accounting standards. Impairment test must be performed if there is indication of the impairment on the reporting date (31st March for most of the Indian entities).

Following factors results in the impairment due to the covid-19 pandemic which indicates that the carrying amount of a CGU may not be recoverable:

• Due to lockdown, there is less demand of entity’s’ products and services from the majority of the industries.
• There has been certain blockages on every state’s border that hampers the logistic and supply chains, which leads to extra cost.
• Cancellation of orders from customers.
• Providing discounts and concessions to customers.

2. Impairment disclosures:

If information of impairment indication is received after the end of the reporting period but before the authorisation of financial statements, following scenarios to be considered by management:-

• Impairment existed at the end of the reporting dated: Impairment review to be carried out.
• Impairment not existed at the end of the reporting dated: No Impairment review/re-performance to be carried out but disclose the information as non-adjusting event when it is such important that non-disclosure would affect decision of users of financial statements.
• Actions to be taken: If there is an indication that assets are impaired, underlying facts may affect annual review of useful life of asset, depreciation/amortisation method, estimated residual value of an asset need to be adjusted even if no impairment loss has been taken.

Disclosures of key assumptions to be taken in detailed form which describes management approach to determine value of each assumption on duration and intensity of any activities, to also those of recovery.