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The coronavirus pandemic will have far reaching implications which will require businesses of all sizes including those applying the small company regime and those adopting the micro entity provisions to consider the impact on the preparation of their annual accounts.

This article looks at the framework for additional disclosure over and above the minimum required under FRS 102 section 1A and FRS 105, highlights key differences from full FRS 102 and looks at some essential areas for small and micro entities to consider.

What does the legislation, FRS 102 and FRS 105 say?

FRS 102 section 1A – small entities

Whilst a small entity preparing accounts under FRS 102 section 1A is not required to comply with the disclosure requirements of Section 3 (to the extent set out in paragraph 1A.7) and Sections 8 to 35 of FRS 102, because those disclosures are usually considered relevant to giving a true and fair view, a small entity is encouraged to consider and provide any of those disclosures that are relevant to material transactions, other events or conditions of the small entity in order to meet the requirement set out in paragraphs 1A.5 and 1A.16. (FRS 102.1A.17)

The additional disclosures encouraged include those concerning material uncertainties related to events or conditions that cast significant doubt upon the small entity’s ability to continue as a going concern as set out in paragraph 3.9.

Management must also disclose significant accounting policies and judgements, so even if there are no material uncertainties disclosure may still be required.

FRS 105 – micro entities

Accounts prepared in accordance with the minimum requirements of FRS 105 are presumed to show a true and fair view. Whilst FRS 105 does not mandate specific disclosures on going concern or critical judgements for micro entities, it requires management to make an assessment of whether the going concern basis of accounting is appropriate, taking into account all available information about the future which is at least 12 months from the date of approving the accounts. (FRS 105.3.3)

Management shall not prepare its financial statements on a going concern basis if they determine after the end of the reporting period that it either intends to liquidate the micro-entity or to cease trading, or that it has no realistic alternative but to do so as effect is so pervasive that FRS 105 requires a fundamental change in the basis of accounting. (FRS 105.26.8-9)

General application to both section 1A and FRS 105

The corporate insolvency laws and amendments announced by the Business Secretary on  which entered law on 25 June 2020 to enable UK companies undergoing a rescue or restructure process to continue trading, apply to all sizes of company.

The responsibilities of management around going concern and the use of the going concern accounting principles are fundamentally the same for those entities applying full FRS 102, FRS 102 section 1A and FRS 105. An entity adopts the going concern basis of accounting unless management either intends to liquidate the entity or to cease trading or has no realistic alternative but to do so.

As such (and as outlined in previous FRC papers from the last recession) there is a presumption of disclosure around going concern in small, medium and large entities accounts.

Practical impact and interpretation for preparers

FRS 102 section 1A

Given the need for those applying FRS 102 Section 1A to produce financial statements that include such disclosures as are necessary to show a true and fair view, most aspects of the disclosures covered in the Covid-19 articles will be required for small entities applying section 1A of FRS 102. 

By way of example, whilst section 1A only encourages disclosure of going concern issues the articles on going concern and accounting estimates and significant judgements apply equally to those applying section 1A where necessary to show a true and fair view. As such disclosure should be expected of significant judgement around impairments and going concern to be shown within small entity accounts.

The assessment of whether an entity has the ability to continue as a going concern is likely to be one of the most significant judgements management need to make in the current climate. Even if there are no material uncertainties, which may cast significant doubt on the entities ability to continue as a going concern, entities should document the judgements made in the assessment and detail them in the accounting policies. 

As such (and as outlined in previous FRC papers from the last recession) there is a presumption of disclosure around going concern in small, medium and large entities accounts.

FRS 105

Turning to those applying FRS 105, going concern is so fundamental that it together with prior period adjustments and exceptional transactions are areas where we see clients include disclosure over and above the minimum required by FRS 105. When they do so, they should refer to the relevant aspect of section 1A of FRS 102.

There is nothing to prevent additional disclosure in FRS 105 accounts and in our view whilst there is no presumption of going concern disclosures, if the entity has net current liabilities, net liabilities or is making losses this would be an indicator the accounts could be misleading without reference to the going concern assessment being added to the micro entity accounts. The ICAEW have noted similar in their micro entity accounts coronavirus checklist: 'In these times of significant uncertainty it is likely to be useful to the users of the accounts to be transparent about risks faced and the assumptions used, and making disclosures which are as specific to the business as possible.'

Despite accounts produced in accordance with the micro entity regime being presumed to show a true and fair view entities need to balance the needs of users with strict adherence to the minimum requirement of the standard to ensure the omission of information does not render the accounts misleading. 

Many of the recognition and measurement principles in FRS 105 are the same as FRS 102 however there are a number of notable differences. When reading other articles in the Covid-19 and FRS 102 series care should be taken with the following areas of key differences:

• Assets and liabilities must be measured at cost less depreciation, amortisation or impairment. Entities applying the micro-entities regime are not permitted to measure assets or liabilities at fair value. [FRS 105 sections 9-17]
• The accounting policy options available under FRS 102 are not available under FRS 105. This means that development costs can’t be capitalised and are taken directly to the P&L [FRS 105.13.5] and government grants must be accounted for using the accruals method only. [FRS 105.19]
• Borrowing costs must be expensed [FRS 105.20.2]
• Deferred tax is neither recognised nor permitted. [FRS 105.24.7]
• Equity-settled share-based payment transactions are not required to be accounted for.

As a result of the increase in use of various funding options including those that involve directors either offering guarantees or providing / receiving finance from the entity, disclosures under the following headings required by FRS 105 will need to be considered:

• Directors’ benefits: advances, credits and guarantees.
• Financial commitments, guarantees and contingencies.
• Off-balance sheet arrangements. 

Key accounting areas for both small and micro entities to consider

The coronavirus and FRS 102 financial reporting and audit implications guide contains articles across a wide range of areas that could be applicable to small and micro entities however the following may be more relevant to the types of transactions that are common in those entities:

• Going concern and proposed changes to insolvency law  – a more detailed explanation of the going concern principles discussed above.
• Events after the reporting date – considering whether coronavirus represents an adjusting or non-adjusting event.
• Exceptional items – presentation and disclosure options for exceptional items that are linked to coronavirus, including the specific requirement of .1AC.32 to disclose the amount and nature of any individual items of income or expenses of exceptional size or incidence.
• Accounting for government grants including the job retention scheme – recognition, measurement and disclosure of grants and related costs. Material grant income is likely to be exceptional hence require separate disclosure under 1AC.32.
• Holiday pay accruals – applying the extension of the window that employees can take their annual leave.
• Impairment of non-financial assets – indicators of impairment and making assessments of the recoverability of assets.
• The Coronavirus Business Interruption Loan Scheme including the Bounce Back Loan Scheme that is aimed at smaller entities – early interpretation of the accounting consequences for borrowers.
• Inventories – effect on the valuation of inventories.
• Leasing arrangements – implications of lease modifications and onerous lease agreements. The October 2020 amendments to FRS 102 are mirrored in FRS 105 for micro entities.
• Provisions, onerous contracts and insurance recoveries – accounting for new provisions including restructuring, amending existing provision estimates, considering if contracts have become onerous and recognising and measuring insurance recoveries. 
• Contingent liabilities and assets – considering disclosure of potential obligations or assets.

Our advice

• Entities of all sizes should prepare short, medium and long-term forecasts, flexed for various scenarios to assess the cash requirements of the business and their headroom within available facilities. Dependent upon the outcome of these forecasts, they should consider what additional financial assistance (eg job retention scheme, coronavirus bounce-back loan scheme) maybe required during this time.
• Forecasts should be continually assessed as the conditions around the pandemic evolve and the assumptions previously used may no longer be accurate or valid.
• Whilst the relaxation of the insolvency laws may appear to provide a little more headroom within these forecasts, if directors wish to avail themselves of these provisions, they should seek professional advice from an insolvency practitioner.
• Disclosure should be presumed to be required in all but micro entity annual accounts – either of the material uncertainties relating to going concern, or why the entity believes there are none. Entities should start with the macro-economic conditions, how they affect the entity, what they have done about them, and their conclusion why they consider using the going concern basis of preparation is appropriate.

For more information please contact Paul Merris and Lee Marshall.