Navigating complex accounting issues in 2022 has been saved
Navigating complex accounting issues in 2022
Three major challenges impacting financial reporting
The economic fallout of COVID-19 continues to evolve. This publication takes a strategic look at financial reporting and accounting challenges related to inflation, supply chain disruptions, and labor shortages that companies may face both individually and collectively as the economy emerges from the COVID-19 pandemic.
When the new normal is perpetual flux
Since early 2020, companies have had to grapple with unprecedented operational and financial challenges. Now, as companies look to navigate the “new normal” while the economy emerges from COVID-19, additional uncertainties cloud not only the overall economic picture but also the outlook for individual companies.
Inflation, supply chain disruptions, and labor shortages are all affecting an increasingly large number of companies in different industries to varying degrees. If a company’s business model and operations are affected, its accounting and financial reporting are likely to be as well.
Throughout the COVID-19 pandemic, many companies have faced significant challenges related to forecasting as a result of the ongoing uncertainties associated with the pandemic. Even as the pandemic diminishes in intensity, it is causing what some consider to be lingering ill effects, such as inflation, supply chain disruptions, and labor shortages. These effects continue to make forecasting particularly challenging in the current environment.
One of the many consequences of COVID-19 has been pent-up demand for a variety of goods and services. However, many companies are having difficulty satisfying the demand because of labor shortages and a disrupted supply chain—with goods in transit stuck on boats either at ports or out at sea (if they have even been able to make it that far in the supply chain). For some industries, supply chain disruptions may also involve the shortage of key components needed for production, such as microchips for auto manufacturers. Faced with the additional challenge of inflation trends unlike any witnessed in the past 25 years, companies are trying once again to develop forecasts amid a number of uncertainties.
As cost structures change with higher inventory and freight costs and pressure to increase employee compensation, companies should (1) consider how they expect the altered cost structures to continue into the future and (2) evaluate whether they will be able to offset any increased costs with pricing adjustments. Companies may see a significant decline in revenues if they are unable to procure resources needed to produce and deliver goods and services.
Inflation, supply chain constraints, and labor shortages all affect a company’s forecasts. Such forecasts are used in a variety of accounting estimates, including, but not limited to, those related to the assessment of (1) goodwill or other long-lived assets for impairment, (2) whether valuation allowances related to the recovery of deferred tax asset balances are needed, and (3) liquidity and the appropriateness of the going-concern presumption. In developing forecasts and assessing the related accounting implications, companies should consider whether the effects of the uncertainties are short term or long term and how that determination will affect various accounting estimates.
Communication with stakeholders
In addition to considering potential accounting-related impacts of inflation, supply chain disruptions, and labor shortages, companies will need to evaluate their communication strategies related to such risks and uncertainties. While private and public companies alike will need to comply with the disclosure requirements under US GAAP, public companies will also need to consider the SEC’s reporting requirements, including required disclosures about trends and uncertainties in the business, risk factors, and MD&A sections of filings. For many companies, these issues may require disclosure in MD&A of known trends or uncertainties that could affect sales, net income, or liquidity. For example, supply chain disruptions may result in lower sales, increased costs, or increased working capital requirements, all of which may warrant disclosure in MD&A.
Companies should consider disclosing the current effects of these matters on the business, expected future impacts, and how management is responding. Further, companies should tailor these disclosures to their specific circumstances and avoid generic boilerplate descriptions of inflation, supply chain disruptions, and labor shortages.