Going concern of trading subsidiaries: can charities issue a letter of support?
Read our guide covering the considerations auditors need to make when deciding whether a letter of support may be relied on as audit evidence.
A guide for charity auditors
The COVID-19 pandemic may place subsidiaries in financial difficulty, leading to a greater need for letters of support. ICAEW has produced a guide which covers considerations for auditors when deciding whether a letter of support may be relied on as audit evidence.
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 a letter of support from their parent entity. A letter of support usually indicates a willingness to give appropriate financial support to ensure the subsidiary can fulfil its obligations.
The COVID-19 pandemic may have placed trading subsidiaries in financial difficulty and therefore may have led to a greater need for letters of support. 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 or has net liabilities.
The ICAEW guide outlines different scenarios where a letter of support may be provided. However, additional considerations apply to the audit of charities and their trading subsidiaries. Charities are established for charitable purposes and their activities must fall within their charitable objects. Trustees of a parent charity need to consider carefully if a guarantee can be given by a charity for a non-charitable subsidiary because it risks charitable funds being used for a non-charitable purpose if the guarantee were to be called upon. Trustees of a parent charity should consider obtaining legal advice to support their decision-making.
The Charity Commission’s COVID-19 guidance for the charity sector recognises the impact of the pandemic on trading by charities but advises trustees to consider carefully whether their charity can temporarily support the subsidiary. Trustees must put the interests of the charity first when they consider whether financial support, such as a temporary cash injection, can be justified as an investment.
Going concern assessment
The ICAEW Audit and Assurance Faculty has issued guidance to provide advice for auditors when testing the going concern assessments of reporting entities impacted by the coronavirus pandemic (COVID-19) and offers practical considerations in relation to ISA (UK) 570 requirements.
In the UK, ISA (UK) 570 (revised September 2019) is applicable for audits of periods commencing on or after 15 December 2019. There is a requirement in the revised UK standard for a more comprehensive and structured auditor risk assessment as a starting point when considering going concern, and auditors may choose to consider the revised standard even if it is not adopted early. Given the increased likelihood of material uncertainties and the possibility that some accounts will be prepared on a basis other than going concern, auditors are likely to view going concern as a heightened and/or significant risk area. Auditors will need to ensure they obtain sufficient, appropriate audit evidence when testing management’s assumptions and forecasts.