Companies urged to clarify risks of failure

Companies will have to explain why they think they can continue as a going concern, as fears grow about corporate failures and the economic climate, according to the Financial Reporting Council.

The accounting watchdog is overhauling guidance on the statements given by companies about their futures, with directors required to examine closely the assumptions that underly them.

Ian Wright, director of corporate reporting at the FRC said the credit crisis had placed strain on banks, which have become cautious about whom they lend money to.

‘This has reduced the liquidity in the market, which has created issues with banks who are even more careful in lending to each other. This has also reduced covenant figures for companies who depend on the capital provided by banks… and led to the need to consider going concern issues,’ said Wright.

The new guidance will incorporate dramatic new requirements imposed by international financial reporting standards.

The moves are likely to see greater disclosure of the issues that underly the statement.

For instance, if companies are looking at a shorter period than a year over which they can continue, they may have to justify that. They will have to state that they will not have to liquidate or cut back on what they are doing, and will have to state the amount of flexibility of movement they have in cashflow.

They will have to outline any defaults on their banking covenants, and disclose financial risks they face and the strategy they are adopting.

The guidance for companies has not been looked at for 14 years.

‘In placing emphasis on the nature of disclosures such as going concern, we’re drawing attention to specific disclosures that directors are expected to make, which they were not required to make at the time of the original document,’ said Wright.

Deloitte national audit and accounting partner Martyn Jones said that external factors - which impact on the business model such as the downturn of consumer demand, increased supplier costs and even the attitudes of lenders ­ also affected going concern.

‘One of the issues relates to banks which have to start managing their own risks, and this could in turn lead to an increased chance that they could call in loans to clients that they’ve lent to.

‘This area is quite tricky, and the FRC putting out guidance is indicative that it is a hot topic at the moment,’ said Jones.