Will SPF's Auditors issue a "Going Concern" opinion?
SPF's Audited 10K should be out in the next few weeks. Will its auditors issue a "Going-Concern" warning?
Quoted areas below were obtained from the following article http://www.nysscpa.org/cpajournal/2004/504/essentials/p40.htm
"SAS 59 requires an auditor to evaluate conditions or events discovered during the engagement that raise questions about the validity of the going-concern assumption. An auditor who concludes that substantial doubt exists about the entity’s ability to continue as a going concern and who is not satisfied that management’s plans are enough to mitigate these concerns is required to issue a modified (but unqualified) report."
"An auditor is not required to design specific audit procedures to identify conditions and events that might raise questions about the validity of the going-concern assumption. An auditor should, however, consider whether certain conditions or events discovered during the course of the audit contradict the going-concern assumption."
"Such information would include the company’s ability to meet its maturing obligations without selling operating assets, restructuring debt, revising operations based on outside pressures, or similar strategies."
We know SPF has been liquidating operating assets, we know that SPF is in negotiations for the third time due to violating its debt covenants, and we know SPF issued a very dilutive convertible to payoff creditors in September.
"The fear is that a going-concern opinion can hasten the demise of an already troubled company, reduce a loan officer’s willingness to grant a line of credit to that troubled company, or increase the point spread that would be charged if that company were granted a loan.
"The hope is that issuing a going-concern opinion might promote timelier rescue activity."
"Another, more troubling reason that auditors might fail to issue a going-concern opinion has been alluded to by the mainstream media in the WorldCom and Enron business failures: lack of auditor independence. Management determines the auditor’s tenure and remuneration. The threat of receiving a going-concern modification may send management to another auditor, in a phenomenon referred to as “opinion shopping.”
"The going-concern assumption is fundamental to accrual accounting. To assume that an entity will continue in business is to say that the entity expects to realize its assets at the recorded amounts and to extinguish its liabilities in the normal course of business."
The above paragraph is the most interesting. Especially for SPF in light of the following:
Zelman & Associates, an investment and research firm, estimates that the $281 million StanPac generated from land sales last year may have represented a 70 percent discount from what the company had originally paid for that land. http://builder-implode.com/ailing.html#builder_StandardPacificHomes_2008-02-21
SPF generated about $281 million dollars in cash by selling land it paid approximately $1 Billion dollars?... and that was last year in a stronger environment than this year. With SPF only imprairing a fraction of its assets, clearly the auditors will not be able to say SPF expects to realize its assets a the recorded amounts(especially with reduced tax benefits going foward).
At the end of last quarter, SPF's HB assets approxmately equaled its debt and payables(not including hundreds of millions of dollars of OFF BALANCE SHEET JV liabilities). If SPF's land is actually worth a lot less than it is reporting to shareholders, based on the current reduced selling prices of homes, especially in SPF's key markets of CA, AZ, and FL, it simply seems like a stretch that SPF mangement will be able to put forth a credible plan demonstrating that it can meet its foreseeable obligations without liquidating material corporate assets, destroying shareholder equity, as it did last year in a much better selling environment.
"If the going-concern assumption fails, then the amount and classification of assets and liabilities in the balance sheet may need to be adjusted, with consequences to revenues, expenses, and equity. Among other things, the going-concern assumption justifies the current and noncurrent classification within the balance sheet, the allocation of costs over periods benefited, historical cost accounting, and most aspects of the revenue recognition and matching principles."
At this point, what will SPF's auditors do?
"Management is not required to perform an evaluation of the entity’s ability to continue for the foreseeable future, nor is it required to state that the financial statements were prepared under the assumption that the company will continue in business."
Up until now, SPF's management have only told us that they expect to be cash flow positive in 2008 and would meet its Senior Debt payment due in the Fall. This statement is not inconsistent with management belief whether or not it can continue for the foreseeable future.....especially if management is liquidating corporate assets to meet such payment obligations. (Could you imagine your mortgage company allowing you to sell your garage to make a mortgage payment?)
"Under current GAAP and GAAS, these initial evaluations and the need for disclosure are determined by the auditors, not by management."
It will be interesting to see what SPF's auditors say when SPF's audited 10K is released in the next few weeks.