The applicability of the going concern concept in Malta : the audit considerations

Abstract

This study evaluates the audit considerations of the going concern assumption in Malta. Its key research objectives are the indications which auditors consider in identifying an enterprise as having going concern difficulties, the evidence collected and the audit procedures carried out by auditors in arriving at their going concern decisions. The self-fulfilling prophecy of going concern is also a key objective of this study. The going concern concept is relevant to most auditors because this assumption is implicit in the application and interpretation of accounting policies and unless otherwise stated, this assumption is assumed in the preparation of financial statements. Local auditors must follow ISA 570, Going Concern, which establishes standards and provide guidance on the auditor's responsibility in the audit of financial statements with respect to the going concern assumption used in the preparation of financial statements. Structured interviews were conducted with twenty four auditors. The sample of interviewees compromised twelve auditors from differently-sized audit firms, divided equally among Big Four audit firms, Non Big Four audit firms and Small audit firms. The sample included also another twelve sole practitioners working in public practice. The study concluded that: (i) The indicators that may cast significant doubt about the going concern assumption are a net liability situation, fixed-term borrowings approaching maturity without realistic prospects of renewal, substantial operating losses, negative operating cash flows, inability to pay creditors on due dates, inability to comply with loan agreements, and pending legal or regulatory proceedings that are unlikely to be satisfied. (ii) The approaches to review going concern vary depending on the size of the audit firm. Big Four audit firms use a specific audit program intended to assess the going concern ability of an enterprise. The majority of non Big Four audit firms perform procedures to review going concern but without following a rigid audit program. Small audit firms review going concern informally. On the other hand sole practitioners apply either an informal assessment or a specific audit program aimed at the evaluation of the going concern assumption. (iii)The most common audit procedures that are carried out in respect of going concern are discussions with management and an analysis of financial indicators that highlight going concern problems. Other procedures include calculation of ratios and observations. Evidence collected include bank correspondence, future prospects of the entity, cash flow projections, suppliers statements of due balances, board minutes and pending court cases and disputes. (iv) Audit reporting on going concern is an area which is not fully ISA compliant in certain instances. Some auditors find it difficult to distinguish between a going concern qualification and an emphasis of matter paragraph. (v) The self-fulfilling prophecy of going concern is not favoured in Malta since auditors claim that an entity does not fail because the auditor qualifies his report. A going concern qualification is an "eye opener." Also, some audit clients manage to survive when a going concern qualification is issued.