Annual Audit Manual
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7523 Evaluating management’s assessment
Apr-2018
In This Section
Management’s assessment and supporting analysis and the auditor’s evaluation
The period of management’s assessment
Overview
This topic explains:
- Management’s assessment and supporting analysis and the auditor’s evaluation,
- The period of management’s assessment,
- Considerations specific to smaller entities,
- Period beyond management’s assessment.
CAS Requirement
The auditor shall evaluate management’s assessment of the entity’s ability to continue as a going concern (CAS 570.12).
In evaluating management’s assessment, the auditor shall consider whether management’s assessment includes all relevant information of which the auditor is aware as a result of the audit (CAS 570.14).
CAS Guidance
Management’s assessment of the entity’s ability to continue as a going concern is a key part of the auditor’s consideration of management’s use of the going concern basis of accounting (CAS 570.A8).
It is not the auditor’s responsibility to rectify the lack of analysis by management. In some circumstances, however, the lack of detailed analysis by management to support its assessment may not prevent the auditor from concluding whether management’s use of the going concern basis of accounting is appropriate in the circumstances. For example, when there is a history of profitable operations and a ready access to financial resources, management may make its assessment without detailed analysis. In this case, the auditor’s evaluation of the appropriateness of management’s assessment may be made without performing detailed evaluation procedures if the auditor’s other audit procedures are sufficient to enable the auditor to conclude whether management’s use of the going concern basis of accounting in the preparation of the financial statements is appropriate in the circumstances (CAS 570.A9).
In other circumstances, evaluating management’s assessment of the entity’s ability to continue as a going concern, as required by paragraph 12, may include an evaluation of the process management followed to make its assessment, the assumptions on which the assessment is based and management’s plans for future action and whether management’s plans are feasible in the circumstances (CAS 570.A10).
OAG Guidance
Discuss with management the going concern status of the entity and, in particular, those elements that are significant to overcoming the adverse effects of the conditions and events and plan and perform audit procedures about them. For example, consider the adequacy of support regarding the ability to obtain additional financing in the medium and long-term or the planned disposal of assets. Additionally, when evaluating future cash flows, do not assume that pending agreements will be consummated, e.g., sales of businesses or pending lending arrangements. If it is important to our conclusion that the pending agreement be consummated, then we need to have important documents signed and fully effective.
Consider these discussions in the light of corroborative documentation and your knowledge of the business and obtain written representation from management of the matters identified.
Considerations relating to management plans may include the following:
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Plans to dispose of assets
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Restrictions on disposal of assets, such as covenants limiting such transactions in loan or similar agreements or encumbrances against assets;
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Apparent marketability of assets that management plans to sell;
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Possible direct or indirect effects of disposal of assets.
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Plans to borrow money or restructure debt
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Availability of debt financing, including existing or committed credit arrangements, such as lines of credit or arrangements for factoring receivables or sale-leaseback of assets;
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Existing or committed arrangements to restructure or subordinate debt or to guarantee loans to the entity;
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Possible effects on management’s borrowing plans of existing restrictions on additional borrowing or the sufficiency of available collateral;
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Apparent feasibility of plans to obtain additional parliamentary appropriations.
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Plans to reduce or delay expenditures
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Apparent feasibility of plans to reduce overhead or administrative expenditures, to postpone maintenance or research and development projects, or to lease rather than purchase assets;
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Possible direct or indirect effects of reduced or delayed expenditures.
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Plans to increase ownership equity
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Apparent feasibility of plans to increase ownership equity, including existing or committed arrangements to raise additional capital;
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Existing or committed arrangements to reduce current dividend requirements or to accelerate cash distributions from affiliates or other investors.
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See OAG Audit 7524 for further guidance on additional audit procedures
CAS Requirement
In evaluating management’s assessment of the entity’s ability to continue as a going concern, the auditor shall cover the same period as that used by management to make its assessment as required by the applicable financial reporting framework, or by law or regulation if it specifies a longer period. If management’s assessment of the entity’s ability to continue as a going concern covers less than twelve months from the date of the financial statements as defined in CAS 560, the auditor shall request management to extend its assessment period to at least twelve months from that date (CAS 570.13).
CAS Guidance
Most financial reporting frameworks requiring an explicit management assessment specify the period for which management is required to take into account all available information (CAS 570.A11).
OAG Guidance
When planning and performing audit procedures and in evaluating the results thereof, it is necessary to consider the appropriateness of management’s use of the going concern basis of accounting in the preparation of the financial statements, and consider whether there are material uncertainties that need to be disclosed in the financial statements. Consequently, we evaluate whether there is significant doubt about the entity’s ability to continue as a going concern for the period of management’s assessment (or the period required by the applicable reporting framework, law, or regulation). Such evaluation is based on knowledge of relevant conditions and events that exist at, or have occurred prior to, the audit report date.
CAS Guidance
In many cases, the management of smaller entities may not have prepared a detailed assessment of the entity’s ability to continue as a going concern, but instead may rely on in-depth knowledge of the business and anticipated future prospects. Nevertheless, in accordance with the requirements of this CAS, the auditor needs to evaluate management’s assessment of the entity’s ability to continue as a going concern. For smaller entities, it may be appropriate to discuss the medium and long-term financing of the entity with management, provided that management’s contentions can be corroborated by sufficient documentary evidence and are not inconsistent with the auditor’s understanding of the entity. Therefore, the requirement in CAS 570.13 for the auditor to request management to extend its assessment may, for example, be satisfied by discussion, inquiry and inspection of supporting documentation, for example, orders received for future supply, evaluated as to their feasibility or otherwise substantiated (CAS 570.A12).
Continued support by owner-managers is often important to a smaller entity’s ability to continue as a going concern. Where a small entity is largely financed by a loan from the owner-manager, it may be important that these funds are not withdrawn. For example, the continuance of a small entity in financial difficulty may be dependent on the owner-manager subordinating a loan to the entity in favor of banks or other creditors, or the owner manager supporting a loan for the entity by providing a guarantee with his or her personal assets as collateral. In such circumstances the auditor may obtain appropriate documentary evidence of the subordination of the owner- manager’s loan or of the guarantee. Where an entity is dependent on additional support from the owner-manager, the auditor may evaluate the owner-manager’s ability to meet the obligation under the support arrangement. In addition, the auditor may request written confirmation of the terms and conditions attaching to such support and the owner-manager’s intention or understanding (CAS 570.A13).
OAG Guidance
See OAG Audit 7524 for further guidance.
CAS Requirement
The auditor shall inquire of management as to its knowledge of events or conditions beyond the period of management’s assessment that may cast significant doubt on the entity’s ability to continue as a going concern (CAS 570.15).
CAS Guidance
As required by paragraph 11, the auditor remains alert to the possibility that there may be known events, scheduled or otherwise, or conditions that will occur beyond the period of assessment used by management that may bring into question the appropriateness of management’s use of the going concern basis of accounting in preparing the financial statements. Since the degree of uncertainty associated with the outcome of an event or condition increases as the event or condition is further into the future, in considering events or conditions further in the future, the indications of going concern issues need to be significant before the auditor needs to consider taking further action. If such events or conditions are identified, the auditor may need to request management to evaluate the potential significance of the event or condition on its assessment of the entity’s ability to continue as a going concern. In these circumstances the procedures in paragraph 16 apply (CAS 570.A14).
Other than inquiry of management, the auditor does not have a responsibility to perform any other audit procedures to identify events or conditions that may cast significant doubt on the entity’s ability to continue as a going concern beyond the period assessed by management, which, as discussed in paragraph 13, would be at least twelve months from the date of the financial statements (CAS 570.A15).
OAG Guidance
Examples of events or conditions that we need to consider going concern matters beyond the period of management’s assessment (see The Period of Management’s Assessment block for guidance on the minimum period of management’s assessment) are where:
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The going concern issue relates to a deteriorating liquidity problem that may become critical shortly after the period of management’s assessment.
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Where a significant event is expected to occur shortly after the period of management’s assessment and disclosure may need to be considered.