Accountants in Somerset - COVD-19 Financial Reporting for small entities

The implications of COVID-19 and the measures taken to control it may have a significant impact on the financial statements of an entity. Below are some of the key considerations for directors of small entities when preparing the next set of financial statements.

Is my business a going concern?

Some industries and sectors will be harder hit by the lock down situation than others. If your business has been forced to shut or you have seen a large decrease in demand you will need to carefully consider whether or not your business is a going concern. Put simply, whether or not you can get through the next 12 months and still have a viable business. In making this decision you should think about your customers, suppliers, the impact of the government measures, and those of finance providers.

If you are uncertain about the future to the extent that there is significant doubt, it is likely that your financial statements will need to include an additional note explaining the uncertainty and how you feel the business will be able to continue.

If the situation is thought to be worse than this and it is likely that you will liquidate or cease to trade, the business will not be deemed a going concern and a different basis of preparation for the financial statements will be required. This will primarily involve valuing the assets and liabilities of the business on a different basis being the value at which you could sell the assets now and the amount which you could pay to settle the liabilities. The note set out above will also be required to support this.

Everything has changed since the year end

You may also find that there are events which have taken place after the date to which your accounts will be prepared which are having a large impact on the way in which the business is now operating. This may be changes to the financing arrangements or closures of specific lines of business. Depending on the nature of the event these too may need to be included within your accounts either as a note or as a change to the financials.

If the event is providing more information about a situation that was present at the year end, this will impact the numbers within the accounts. For example a customer who you thought at the 2020 year end was able to pay your bill now finds themselves in a position where they can not pay. The debt would therefore be written off and reflected in the numbers in the 2020 accounts.

In contrast, events such as new measures to contain the virus or decisions that you make after the year end are likely to be non-adjusting events. An example of this would be a restructuring of your banking arrangements. Although these non-adjusting events do not require an accounting entry they will require an additional note to the accounts explaining the change and setting out the estimated financial effect.

The value of the assets in the business has changed

Assets are held within the financial statements at different values, generally being cost or open market value. The current economic environment is likely to be very different to that at the date of your last financial statements and therefore the values at which the assets are presented may need to change to ensure that they remain realistic. Where the values for last year are higher than what is considered reasonable at the date of the accounts, the reduction in value will need to be recognised and a note included to explain this.

Does this also impact stock?

The valuation of stock may also be impacted in a similar way to other assets. Stock is held within the accounts at the lower of cost and the selling price of an item less, the costs to sell it. If there ceases to be demand for the product, it becomes obsolete as a newer version is available or the stock has a short life then there may be a reduction in the value of the stock to below its original cost.

Similarly there may also be an impact on the valuation of any work in progress. The valuation of work in progress at the accounting date will need to reflect the costs of the future work to be undertaken as well as the final valuation of the end product and the likelihood of its future sale. This may again result in a reduction to the value at the end of the accounting period.

One off transactions

In times that we have never seen before it is likely that we will also see costs and transactions that are new and one off such as the job retention scheme grant. Where these are of a value which will have a recognisable impact on the financial statements they can be presented in one of two ways. The first option is in a note to the accounts explaining the transaction and how it is presented. The second is that it is shown as a separate line within the profit and loss account and also backed up by an explanatory note.

Dividends and other distributions

The Companies Act 2006 requires dividends to be paid out of distributable profits. This means that they are paid out of the retained earnings shown in the balance sheet plus the profits made for the current year. Where this years’ business performance looks very different to the performance of previous year, and you do not have a large balance of retained earnings it is important to ensure that the dividends that you pay remain legal. As a director you have fiduciary duties which include the safeguarding of the company’s assets and taking reasonable steps to ensure that the company can meet its debts as they fall due. Directors must make sure that the company remains solvent following the payment of a proposed dividend by considering the financial position presented in the balance sheet at the date of the latest management accounts and the future cash needs of the business, which given the current environment may have drastically changed since any dividend was proposed. It is worth highlighting that the directors who approve a dividend and/or the shareholder in receipt of the dividend may become liable to repay the full dividend, or a proportion of it, should it be found to be illegal. Director’s should carefully consider the decision to pay a dividend and may find taking a higher level of salary at this moment in time, a less risky strategy than receiving a dividend.

We can help

If you would like to discuss the impact of Covid-19 on your financial statements please get in touch with your usual Albert Goodman contact.

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