Simply Stated Newsletter – August 2020

COVID-19 Triggers More Going Concern Disclosures

The most recent data from Audit Analytics shows that 42 SEC-registered public companies have cited the COVID-19 pandemic as a contributing factor to substantial doubt about their company’s ability to continue as a going concern for the next 12 months.

The July 2020 report noted this was a 40 percent increase in the number of companies which included COVID-triggered going concern language in their annual audit opinions since Audit Analytics‘ earlier May survey.

Highlights of the Audit Analytics report include:

• Of the 42 going concern modifications referencing COVID-19, more than half also cited operating losses as a contributing factor, while 71% cited cash flows or insufficient cash/liquidity. Companies already struggling with these types of factors may find themselves in an untenable situation during and/or after the pandemic, as COVID-19 impacts will only continue to exacerbate their pre-existing issues.
• Of the top 5 issues accompanying the 42 going concern modifications, it’s clear that the pandemic may be a tipping point for otherwise financially struggling companies.
• As of July 2020, 48% of companies that have received a going concern modification are in the Manufacturing industry, 17% are Services companies, 12% Retail Trade, 12% Transportation, Communications, Electric, Gas & Sanitary Services, 7% Finance, Insurance & Real Estate, and 5% Mining companies.

The report explains that while audit opinions relate to a company’s financial position for the previous 12 months; the going concern modification is a prediction for the next 12 months.

“As annual audit opinions are filed for fiscal years that ended after the start of the pandemic, we would expect to see an increase in the number of companies receiving a going concern modification either directly or indirectly related to COVID-19,” the report notes.

* Read Weinberg’s Corey Fischer Article on COVID-19-Triggered Going Concern

Weinberg Firm Managing Partner Corey Fischer’s insight into the rise in COVID-triggered going concern was just published in the Summer 2020 issue of MicroCap Review Magazine.

The bylined article provides a discussion of the analysis company managements must make to assess whether there is substantial doubt about their ability to continue as a going concern. In addition, he outlines which industry sectors are expected to be most impacted, and management’s need to be diligent and transparent.  To access the full article: Click Here.

Smaller Public Companies

U.S. Chamber Seeks Delay of CAM Reporting

With a goal toward giving more time to COVID-19 stricken smaller public companies, the U.S. Chamber of Commerce has asked the PCAOB for a one-year postponement of the implementation of phase two of reporting critical audit matters (CAMs).

This second phase effecting smaller companies is scheduled to go into effect for audits of fiscal years ending on or after December 15, 2020. The first phase, which targeted large accelerated filers, took effect for fiscal years ending on or after June 30, 2019.

The PCAOB adopted CAMs as a new reporting standard to inform investors and other financial statement users of matters arising from the audit that requires especially challenging, subjective, or complex auditor judgment, and how the auditor responded to those matters.

In a letter dated June 18, 2020, responding to the PCAOB’s Request for Comment (RFC) from stakeholders on their initial experiences with auditor reporting of critical audit matters, Tom Quaadman, Executive V.P. of the Chamber’s Center for Capital Markets Competitiveness (CCMC), argued for the delay, stating: “This is not a time for ‘business as usual’ for any stakeholder. All stakeholders are consumed with meeting their professional and personal responsibilities during these difficult and challenging times. Everyone will continue to do so for the foreseeable future as we work to navigate the path forward.”

Quaadman added the PCAOB’s postponement would be aligned with relief granted by other accounting and oversight groups. “To acknowledge the unprecedented circumstances of the COVID-19 pandemic and provide some relief, other accounting and auditing standard setters such as the Financial Accounting Standards Board (“FASB”) and the Auditing Standards Board (“ASB”) of the American Institute of Certified Public Accountants (“AICPA”) have postponed the effective dates for the implementation of their new standards.”

 Double Whammy

Banks Set Aside Billions for COVID-19 and CECL

The largest banks are adding billions of dollars to reserves in response to COVID-19 as well as for the adoption of the Federal Accounting Standards Board’s (FASB) new credit losses standard (CECL), according to a just released report by Moody’s Investors Service that examined the six largest credit card issuers.

Moody’s surveyed American Express, Bank of America, Capital One Financial, Citigroup, Discover Financial Services and JPMorgan Chase.

FASB’s new CECL standard is based on the estimation of expected losses over the life of loans instead of on incurred losses. It requires lenders to recognize expected losses when they issue loans instead of waiting until it is probable that a loss has been incurred.

CECL has been criticized by the banking industry in part because it requires lenders to forecast the state of the economy, which is very difficult to predict.

As challenging as it is to implement CECL in more normal economic times, add the difficulty of estimating future loan losses with the added financial disruption caused by COVID-19 and the uncertainty for consumers to pay their credit card bills.

CECL took effect for large publicly traded companies in January 2020. When the pandemic spread across the U.S., FASB voted to delay the effective date of CECL as well as other standards for smaller reporting companies, private companies, and non-profits, giving some breathing room to small banks and credit unions.

Moody’s report says that large banks, however, face the combined impact of CECL and COVID-19. Those banks are challenged to estimate future losses as well as the effectiveness of government support programs. The reserve builds have sharply reduced profitability at the large banks, which have all stopped share repurchases.

The report noted that exposure to credit card losses, which have higher charge-offs than other bank loans, represented a large part of the reserve build. Among the top six banks, the average allocation for credit card loan loss has tripled from around 4% of outstanding loans at the end of 2019 to almost 11% at the end of the second quarter of 2020.

180 Industry Groups Unite

Congress Urged to Overturn IRS on PPP-related Business Expenses

The American Institute of Certified Public Accountants (AICPA) has joined with 180 industry groups urging Congress to overturn an IRS position regarding the deductibility of Paycheck Protection Program (PPP) loan forgiveness-related expenses.

In an August 4, 2020 letter addressed to House Speaker Nancy Pelosi (D-Calif.) and Senate Majority Leader Mitch McConnell (R-Ky.), the coalition letter said the IRS contradicted Congress’ intent in an April 30th Notice (2020-32) which declared that no tax deduction is allowed for an expense that is otherwise deductible if the payment of the expense results in forgiveness of PPP-covered loan.

The letter states: “When the PPP was adopted as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, Congress made clear that any loan forgiveness under the program would be excluded from the borrower’s taxable income. Specifically, a recipient of a PPP loan was eligible for forgiveness of indebtedness for amounts equal to certain payroll, mortgage interest, rent, and utility payments made during a prescribed period, with any resulting canceled indebtedness excluded from the borrower’s taxable income.”

The letter continues, “despite Congress’ intent, the IRS issued Notice 2020-32 denying tax deductions for amounts paid under the PPP that were forgiven, claiming that treatment was necessary to prevent taxpayers from receiving a double benefit.”

“This is simply untrue,” counters the letter, specifically offering this example: “If a business has $100,000 of PPP loans forgiven and excluded from its income, but then is required to add back $100,000 of denied business expenses, the result is the same as if the loan forgiveness was fully taxable.

Acknowledging that the reasoning underpinning the IRS’s Notice may be “a debatable point, the letter asserts: “What is not debatable, however, is congressional intent regarding the tax treatment.” The letter requests that Congress reaffirm its intent and restore the tax benefits it intended as part of the next round of COVID-19 relief.