2020/21 Reporting Season: letters of support – a guide for auditors
6 November 2020: The COVID-19 pandemic may place subsidiaries in financial difficulty, leading to a greater need for letters of support. ICAEW has produced a guide to help auditors navigate this potentially complex topic.
When directors of a subsidiary entity are taking steps to satisfy themselves the entity is a going concern and identify whether there are material uncertainties related to going concern, they may request letters of support from their parent entity (or another group entity). A parent entity may have issued letters of support to more than one of its subsidiaries.
These letters usually indicate a willingness to give appropriate financial support to ensure the subsidiary can fulfil its obligations. The COVID-19 pandemic may have placed one or more subsidiaries in financial difficulty and therefore may have led to a greater need for letters of support.
In most cases, letters of support are not legally binding and even if they are, may not on their own provide sufficient appropriate audit evidence. Letters of support are commonly used where the parent entity is unable or unwilling to give a legal guarantee but wishes to give some comfort in respect of the subsidiary's ability to meet its obligations. They are especially common where the subsidiary is loss-making, has net liabilities or has high levels of intercompany creditors which the subsidiary may not have the assets readily available to repay were they to be called in. ICAEW’s guide outlines different scenarios where a letter of support may be provided.
The guide goes on to describe relevant case law, detailing the High Court’s judgment in the case of Carillion Construction Ltd v Zelf Hussain and Robert Jonathan Hunt (the Joint Liquidators of Simon Carves Ltd (in Liquidation)) 2013. The High Court ruling shows that a letter of support will usually not be legally binding. More information on the High Court ruling is included in an Appendix to the guide. Some directors may have been surprised to learn that letters of support were not enforceable by the subsidiary, and some might not have been comfortable to confirm a company’s going concern status based on a non-legally binding letter.
Finally, the guide includes a substantial frequently asked questions (FAQs) section, providing practical guidance on the topic. This includes practical questions around what other audit evidence may be required, whether the parent entity or individual can provide the support, at what point in time letters should be provided, and the difference wording can make to the robustness of the letter, including putting caps on the level of support and providing clarity on the time periods covered by the letters.
The full guide, available to ICAEW members, Audit & Assurance Faculty members and Faculties Online subscribers, is available here.
ICAEW has a range of relevant resources available and will continue to prioritise and develop these in response to the evolving situation. We offer specific online technical resources relating to COVID-19, including items for preparers and auditors, which are freely available to all.