GrowthCast Episode 03: Financial Reporting Considerations In Disruptive Times

Host John Locke welcomes DHG Audit Innovation & Methodology partner Liz Gantnier to discuss financial reporting considerations during these disruptive times.

Transcript

Introduction

[00:00:10] JL: Welcome to today’s edition of DHG’s GrowthCast. I’m your host, John Lucke, and at DHG, our strength lies in our technical knowledge, our industry intelligence and our future focus. We understand business needs and are laser-focused on company goals. In this ever-changing world, DHG’s GrowthCast provides insights and thought-provoking conversations on topics and trends that address growth opportunities and challenges in the current and future marketplace.

Thanks for joining us as we discuss tomorrow’s needs today.

Views and concepts expressed by today’s panelists are their own and not those of Dixon Hughes Goodman LLP. Always consult the advice of your legal and financial professional before taking any action.

Interview

[00:00:57] JL: Today’s guest is Liz Gantnier, professional practice partner in DHG’s Charlotte corporate office. Liz came to DHG over three years ago after serving his president and director of quality control for a regional county firm in the Baltimore, Maryland market. Liz is a CPA, graduated from the University of Richmond and has been an instructor for the National AICPA during her career. Liz is here today to share her insights on COVID-19s impact on financial reported issues.

Thanks for joining us today, Liz.

[00:01:31] LG: Thanks for having me, John.

[00:01:33] JL: COVID has also been on everyone’s mind, Liz, and you’re with your assurance department here at DHG. Share with us how COVID-19 has impacted financial reporting issues and auditors that are working on 12-31-19 yearend audits.

[00:01:51] LG: Yeah. John, that’s a really great question. The COVID emergency didn’t start to really manifest itself until 12-31, but it does have financial reporting implications for these 12-31-19 engagements. I think the issue auditors and their clients need to consider this accounting concept called subsequent events.

Now, the literature that governs subsequent events for the nerds out there, let’s say a C855, there are two types of subsequent events and they’re pretty to remember. They’re called type 1 and type 2. A type 1 event is one where the financial statements that 12-31 do need to be adjusted for the information that you’ve learned post 12-31. A type 2 event however is the opposite. The financial statements do not need to be adjusted for the information that you learned post 12-31.

I think COVID is going to fit more squarely into that type 2 num that’s not saying it could never be a type 1. But I think it’s likely that the COVID event is more a type 2 event where we’ve got to determine whether or not a client has been dramatically and negatively impacted by these events on an ongoing basis rather than back to 12-31. Again, that’s a hypothetical situation and you may have a client that has no impact and therefore no disclosure.

[00:03:10] JL: Gosh! Is there any company that wouldn’t be affected by this event?

[00:03:14] LG: Well, I hesitate to put my money on all or none, but there are clearly some essential businesses out there that have not needed to close down, and although is not business as usual, they are likely not subject to the same disruption that everybody else is. Those are the entities I would consider whether or not a COVID-19 disclosure is necessary.

[00:03:39] JL: Okay. Once we have the 12-31 engagements behind us, I guess the next issue would be clients with yearends after 12-31. So let’s say a listener has a 3-31 yearend. Things are going to get real, real for them quickly. Wouldn’t you agree?

[00:03:57] LG: Yeah, it’s going to get real and it’s going to get real fast. This is not a subsequent event. This is an event that’s occurring during the fiscal year or prior to yearend and there’s going to be a lot of accounting issues that a client is going to face, and I think I would start with thinking that just the concept of estimates. Estimates are based on assumptions, based on data, based upon statistics, and COVID could have changed one of those underlying statistics rather dramatic or negative way.

Let’s think about accounts receivable and bad debt reserves. You might use local geographic unemployment statistics, for example, to develop that bad debt reserve. Clearly, unemployment statistics are being impacted by COVID, and therefore so too are your assumptions and so too is that estimate net financial statement blind item. Estimates that have possibility or reasonable possibility of a material change need to be disclosed, and I think we’re going to find that there might be a few more of those in those disclosures post this COVID timeframe.

[00:05:06] JL: Liz, let’s talk some specifics about financial statements accounts or areas that would be particularly susceptible to a financial statement impact as a result of these recent events.

[00:05:18] LG: How much time do we have John, because I think there’s going to be almost an infinite array of things that could be impacted. But I think there are some obvious low-hanging fruit here of things that are subject to estimate or things that are subject to impairment, so goodwill and intangibles. Now, there’s a lot of accounting choices that can be made about goodwill, for example. Not thinking about those choices, goodwill and intangibles, no matter of those choices, is subject to an impairment analysis of some type or sort and it’s very possible that a recent acquisition that created some goodwill that’s on your books has been materially impaired as a result of this. So I think goodwill might be the first place I would start.

Investments; investments reads are at fair value or being disclosed at fair value. Clearly, the market, a disruption would cause fair value changes to your investments and you’d need to know whether or not those fair value changes are considered other than temporary, which is accounting speak for longer term. Those all require judgment to determine that.

Inventory; you might have way too much inventory of something that right now nobody is buying. That inventory might be considered impaired. Speaking of inventory, you might have difficulty even taking a physical inventory. Let’s pretend your yearend is April 30th and let’s pretend everyone’s in a shelter, at home or in place mandate. Well, how are you going to go take inventory and how are auditors going to audit that?

You got to know what the auditing standards says about the evidence you need and then you got to device-away to get to that level of evidence using maybe an innovative way to do it. It might not be the easiest way to do it, but it will be an innovative way of doing it.

We’ve already talked about receivables and bad debt reserves. So I think I would also consider revenue recognition, and this new ASC606 has lots of places where estimates are involved. Maybe the biggest one would be variable consideration, and as the name implies, the answer is variable and it’s subject to probability. So we got to figure out what those new estimate are. It might be a bigger challenge in this sort of economically volatile time. Last but not least, I think the big juggernaut is going to be this thing called going concern, and whether or not there’s substantial doubt about a company’s ability to continue as a going concern.

[00:07:50] JL: Going concern, sounds ominous. Tell us more about that. What are the real issues here?

[00:07:56] LG: John, let me be clear. This is not a new accounting standard. This was just not come about because of COVID. So sort of no matter what, we had to go through this analysis. Management is required. Do the analysis and the auditors are required either audit it or review it depending upon the level of assurance. But in the past, it may have been a pretty perfunctory exercise of can I pay my bills? Yeah, I can pay my bills. It’s pretty obvious. I can pay my bills and there’s nothing telling me I might not be able to.

Well, in this environment, there might be lots of things telling you that you might not be able to. One, your cash may be being depleted. Two, your receivables may not be as collectible. Three, your payables may be mounting up. This is not as easy of an analysis as it may once have been, and if you’re not used to doing it, you may need to sharpen your pencil and think long and hard about how do I determine whether or not there is substantial data about my ability to pay my bills for a period of one year from the date of the audit report or the opinion date. Not the financial statement date, the report date. Let’s pretend it’s May 15. You got to look out all the way to next May 15 for that 3-31 yearend financial statement engagement.

To complicate matters, if you determine that you can’t pay your bills, the you go to this step two, which is, “Well, can you mitigate that by deferring payments on things or stopping discretionary spending?” All of those things require some thoughtful process and some estimate and judgment on everybody’s part. It’s not something you’ll wait to the end to start. I think going concern might be the one that is most unfamiliar to people in as robust informal a fashion as this one might demand.

[00:07:56] JL: Lots to think about apparently. Liz, what would you suggest to our listeners today that they should be really thinking about and focusing on as they move forward in this time of uncertainty?

[00:09:57] LG: Well, every now and then, you sort of look back on your career choice, and I for one, I’m really grateful that I’m part of a profession that help stabilize the economy in disruptive times. It lends credibility, reliability to financial reporting. When the financial reports are reliable and fairly presented, it gives you confidence about the decisions you’re making. It allows you to recognize the opportunities that are in front of you. It allows you to face challenges head-on. Allows lenders and investors to feel confident that we’re all making the decisions based on good data, and I’m really glad to be part of that piece of the system.

I just would recommend that problems and difficulties and challenges rarely getting easier as time goes by. Although I think in this case, there could be some – We need to wait and see some data. It’s going to be more obvious in another week about the length or depth and breadth of this crisis. But don’t shy away from having conversations now. Be transparent. Be robust. Be forthright and honest about the evidence that is needed, the documentation that’s required, what the standard is, the hurdles that standard is requiring. If we all do that early in the system, then we won’t be taken by surprise maybe the level of effort that we go to to get to a good, efficient outcome.

[00:11:27] JL: That’s great advice. Just communicate, right? Engage, and we can all get out in front of this. 

[00:11:33] LG: Yeah, we really can, and we’ll move through this thing. We just need to be a little more inventive and maybe a little more communicative and deliberate about that communication for the time being, but that’s not such a bad thing.

[00:11:45] JL: No, I think. Liz, thank you so much for your time today.

End of Interview

[00:11:51] JL: You’ve been listening to the DHG GrowthCast with Liz Gantnier, professional practice partner in the DHG’s Charlotte corporate office. We hope that you learned a few tips on how to navigate financial reporting during the COVID-19 economy. I’m John Luck, your host, and I look forward to reconnecting with you again soon on an upcoming episode of DHG GrowthCast.

About DHG's GrowthCast

At DHG, our strength lies in our technical knowledge, our industry intelligence and our future focus. We understand business needs and are laser focused on company goals. In this ever-changing world, DHG’s Growthcast, provides insights and thought -provoking conversations on topics and trends that address growth opportunities and challenges in the current and future marketplace. Join us in discussing tomorrow’s needs today.

Disclaimer: The views and concepts expressed by today’s guests are their own and not those of Dixon Hughes Goodman LLP. Always consult with your legal and financial professional before taking any action.

CONTRIBUTORS

Liz Gantnier
Partner, DHG Audit Innovation & Methodology
Liz.Gantnier@dhg.com
© Dixon Hughes Goodman LLP. All rights reserved.
DHG is registered in the U.S. Patent and Trademark Office to Dixon Hughes Goodman LLP.
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