Going concern issues for LATCOs
The past few years have bought a raft of financial uncertainties. Starting with the effects of the Covid pandemic, and more latterly the conflict in Ukraine, rising inflation rates, the tight labour market, the supply chain disruption and increasing energy prices. The list of potential obstacles for any entity is a long one.
Fortunately, most LATCOs have the support of a Local Authority and are willing to put pen to paper in this regard to support the going concern assumption in the accounts. However, it is wise to have these conversations with them early on if needed. As auditors, we are looking for support for a period of at least twelve months from when the audit report is signed, and we need evidence that the Local Authority has the resource if needed to provide this support.
ISA 570 – The auditing standard on Going Concern, requires auditors to obtain sufficient audit evidence regarding and concluding on:
- Whether a material uncertainty related to going concern exists; and
- The appropriateness of management’s use of the on Going Concern basis of accounting, in the preparation of the financial statements
Reverse stress testing is a useful tool to enhance the robustness of the going concern assumption. It involves identifying scenarios which would make the business model unviable and also assessing the likeliness of those scenarios occurring.
Other accounting considerations include:
Loan covenants
Many LATCOs have loans with the Local Authority and it’s not uncommon for these to have covenants. Long-term liabilities would need to be reclassified as current, if there has been a breach in loan covenants during, or at the year end, that could trigger immediate repayment of borrowings. It is possible to obtain a waiver of the covenant, but this needs to be agreed in writing prior to the year end.
Bad Debts
Like the covid effects, the current economic climate could have ramifications for investment property companies whose tenants are unable to pay. Persistent issues could also have an impact on lease receivables and consequently fair values of properties.
Onerous contracts
The supply chain impact and labour shortage could also mean that some contracts may now become loss-making, meaning that a provision may be required. In addition, some contracts may make provision for compensation to be paid for delays or non-performance.
Carrying values of assets, recoverability of deferred tax assets, stock write downs, the capitalisation of interest costs on paused projects and the estimation uncertainty in significant judgements, are all areas to consider too.
We are in turbulent times and understanding the key risks for your LATCO in a volatile economy is a challenging one, and almost involves the constant reappraising of budgets and cash flows to understand the current situation.
