IFAC's Points of View
Maintaining Trust & Confidence During a Crisis
Lessons Learned from the Global COVID-19 Pandemic
Every crisis is different. In recent history, we have seen crises of systemic scale driven by asset bubbles, acts of terrorism, and the coronavirus. While the causes and impacts are largely unpredictable, one thing is certain—the next crisis will come.
In any crisis, companies, professional firms, public sector entities, and private organizations have, first and foremost, a responsibility for the well-being of their employees, customers, and communities. While not typically on the front lines directly confronting a threat, professional accountants across the world provide strategic and operational expertise, integrity, reliability, and transparency of information needed for economies to function, even during a crisis. Fortunately, remote locations and today’s virtual technology allow employers of professional accountants to better align the needs of their employees and clients with a commitment to keeping businesses, governments, markets and economies functioning.
Crises can disrupt our places of work, our homelife, and our mindset, with repercussions for internal controls and processes, personal and professional behavior, and decisions made in the face of uncertainty and incomplete information. Such challenges impact the important services professional accountants provide and can shake the foundation upon which relevant, reliable and high-quality information—relied on by boards and the leadership of reporting entities, government/regulatory policymakers, investors and other stakeholders—is based. When these challenges emerge and the importance of high-quality information is heightened, the expertise, trust and judgment of the accountancy profession is tested and must truly shine.
Every crisis teaches us something new about how best to prepare for, mitigate, or even try to prevent the next event. Society needs professional accountants, as an essential component of a sustainable and resilient global economy—guided by their fundamental ethical responsibility to act in the public interest. Maintaining trust and confidence during a crisis is the fastest path to recovery after a crisis.
Regulators Acknowledge the Challenges Faced by Reporting Entities During the COVID-19 Pandemic
"Active oversight of financial reporting and audit processes by the issuer’s audit committee or those charged with governance (TCWG)…further supports the provision of reliable, high-quality information to investors.”
“…we would not expect to second guess good faith attempts to provide investors and other market participants appropriately framed forward-looking information.”
Commentary from Center for Audit Quality and CFA Institute
“As knowledgeable investors recognize, this is a challenging time for even the best-managed companies….Investors should be thoughtful about the mix of information they are relying on to make decisions, including the assumptions and judgements going into that information and the level of auditor involvement."
1. Role of Senior Management & Those Charged with Governance
Senior management, board directors, audit committee members (i.e., all those charged with governance - "TCWG") are responsible for maintaining the quality and integrity of decisions made, information reported, and messages communicated to stakeholders during periods of economic or operational stress.1 The ability of the board and senior management to identify the challenges, develop innovative solutions, lead corporate culture, and navigate through uncertainties, will determine the survival and future of an entity facing a crisis.
- To be crisis-ready, IFAC believes that TCWG must employ “integrated thinking” in managing their organizations—focusing on drivers of value, resiliency of the business model, clear assessments of risks and opportunities, and strong alignment of KPIs and incentives. Crises put companies to the test—spotlighting strategic and structural weaknesses or dependencies that may be easy to overlook during times of prosperity. IFAC’s partnership with the International Integrated Reporting Council shows our support for companies to focus on long-term value creation and preservation.2
- Audit Committees must be vigilant, agile, independent, disciplined, and engaged. We recommend the below actions to optimize their crucial role in governance, oversight, and long-term value creation during times of crisis:
- Stay informed,
- Communicate and collaborate,
- Leverage available expertise,
- Promote continuous improvement,
- Think holistically, and
- Embrace technology.
Adoption of these recommendations may require strengthening and
refining of governance arrangements and enhancement to risk
management and internal control activities.
- Incentives for fraudulent activity and the risk of error can be heightened when organizations and individuals are faced with unusual economic challenges and disrupted working environments.3 TCWG have the ultimate responsibility for business integrity and transparency. IFAC believes that boards and management must take steps to ensure:
- Internal controls are adapted or enhanced to reflect new operating conditions.
- “Tone at the top” makes clear there is zero tolerance for inappropriate activities and encourages employees to speak up if they see mistakes or wrongdoing.
- Heightened state of alertness exists to detect fraud or manipulation of accounting information.
- Collaboration with external auditors results in appropriately updated risk assessments, enhanced engagement with finance functions and internal audit, and sufficient, appropriate audit evidence is made available and obtained.
- IFAC believes that going the extra mile in providing reliable and high-quality information and disclosures will improve stakeholder understanding, support the credibility of reporting entities and reduce second guessing in the aftermath of a crisis.4 Disclosing the assumptions, judgments and estimates that underpin scenario analysis, future performance guidance, fair value measurements, impairments, or expected credit losses is critical. It’s a matter of investor protection. By doing so, management provides transparency—based on information available at the time and provided in good faith—into the soundness of company analysis, planning, and ability to survive as future facts and circumstances evolve. However, investors and other users of financial information cannot assume that all companies will make uniform assumptions, judgments and estimates in uncertain times—so the potential for inconsistencies or inaccuracies in reported information may increase.5 This is why transparency is always important.
- IFAC believes that effective corporate governance includes the development of business continuity plans grounded in robust communication between the board/management and key external stakeholders including auditors, regulators, consultants, academic/industry experts, rating agencies, and large shareholders. When normal communication channels are disrupted, a company must take steps necessary to sustain transparency and accountability—to avoid misunderstanding, and ill-informed decisions.
- Communication between an entity’s leadership and stakeholders is important for companies of all sizes. One of the most important forums for publicly held companies is the annual general meeting. Today’s technology enables companies to conduct “virtual” meetings. In agreement with representatives of the global investor community, IFAC believes that, during a crisis, public safety concerns may defer or change the format of annual meetings, but such emergency solutions must be employed with every effort to be as participatory as possible and should not be extrapolated by companies or regulators to post-crisis practice that could, in the long-run, diminish accountability to shareholders and stakeholders.6
- While financial statement audits are typically performed annually, we believe that TCWG (especially at companies in industries severely disrupted) should consider additional assurance or related service engagements that address issues such as:7
- Going concern, including scenario testing of liquidity and solvency;
- Capital preservation measures, including the suspension of dividends;
- Internal control assessments; and
- Valuations and estimates of goodwill, intangibles, inventory, financial instruments, trade receivables, or loan losses.
- IFAC believes that whistleblower policies at companies and effective legal regimes for handling protected disclosures are a matter of good governance provide effective deterrence to fraud, and are especially important when normal controls and operating procedures are disrupted.8
1 IFAC Pont of View – Achieving High Quality Audits, The Right Governance
3 Center for Audit Quality - Managing Fraud Risk, Culture, and Skepticism During COVID-19, April 20, 2020
4 IOSCO highlights the importance of disclosures during the COVID-19 pandemic, noting - “Investors and other stakeholders need timely and high-quality financial information complete with transparent and entity-specific disclosures, including information about the impact of COVID-19…” Further, with respect to audits of annual reporting, “high quality audits conducted by an independent auditor is a critical part of the ecosystem that provides reliable, high-quality financial information to investors. This should be complemented by active oversight of the financial reporting and audit processes by the issuer’s audit committee or those charged with governance (TCWG) which further supports the provision of reliable, high-quality information to investors.”
The U.S. Securities and Exchange Commission has urged companies "to provide as much information as is practicable regarding their current operating status, and their future operating plans under various COVID-19-related mitigation conditions." The Commission acknowledges “… actual financial and operational results may differ substantially from what would now appear to be reasonable estimates” and that in light of “the uncertainty in our current business environment, we would not expect to second guess good faith attempts to provide investors and other market participants appropriately framed forward-looking information.” See: https://www.sec.gov/news/public-statement/statement-clayton-hinman and https://www.sec.gov/news/public-statement/teotia-financial-reporting-covid-19-2020-06-23
The SEC has also stated that “…many companies have been required to make significant judgements and estimates to address a variety of accounting and financial reporting matters. As those who engage with us well know, OCA [Office of the Chief Accountant] has consistently not objected to well-reasoned judgments that entities have made, and we will continue to apply this perspective. Companies should ensure that significant judgments and estimates are disclosed a manner that is understandable and useful to investors, and that the resulting financial reporting reflects and is consistent with the company’s specific facts and circumstances.”
The U.K. Financial Reporting Council’s guidance to companies and auditors acknowledges that “making forward-looking assessments and estimates when preparing financial statements and providing other corporate reports is particularly difficult currently.” FRC guidance addresses “narrative reporting to provide forward-looking information that is specific to the entity and which provides insights into the board’s assessment of business viability and the methods and assumptions underlying that assessment; …the basis of any significant judgments…confirming the preparation of financial statements on a going concern basis; and the increased importance of providing information on significant judgments applied in the preparation of the financial statements, sources of estimation uncertainty and other assumptions made...” See: https://www.frc.org.uk/covid-19-guidance-and-advice
5 In the context of the COVID-19 pandemic, the FRC states that “...users cannot expect all companies to apply consistent assumptions when there is such uncertainty. This lack of consistency makes the need for full disclosure of judgments, assumptions and sensitive estimates significantly more important than usual.”
Pensions & Investments, 17 June 2020, Commentary by Julie Bell (Center for Audit Quality) and Sandra Peters (CFA Institute): “As knowledgeable investors recognize, this is a challenging time for even the best-managed companies. The difficulties experienced to date in financial reporting [related to the 2020 pandemic] will likely continue….Investors should be thoughtful about the mix of information they are relying on to make decisions, including the assumptions and judgments going into that information and the level of auditor involvement. Notwithstanding these challenges, investors should have confidence that the financial reporting ecosystem of public companies, auditors, and regulators is designed to equip them with the information needed to make sound investment decisions. Those decisions will play an essential role in our economic recovery.”
8 See IFAC Point of View - Fighting Corruption and Money Laundering. ICAEW provides practical guidance for directors on the importance of whistleblowing during the COVID-19 pandemic.