May 10, 2022 May 10, 2022/ Steven Bragg
The going concern principle is the assumption that an entity will remain in business for the foreseeable future. Conversely, this means the entity will not be forced to halt operations and liquidate its assets in the near term at what may be very low fire-sale prices. By making this assumption, the accountant is justified in deferring the recognition of certain expenses until a later period, when the entity will presumably still be in business and using its assets in the most effective manner possible.
An entity is assumed to be a going concern in the absence of significant information to the contrary. An example of such contrary information is an entity’s inability to meet its obligations as they come due without substantial asset sales or debt restructurings. If such were not the case, an entity would essentially be acquiring assets with the intention of closing its operations and reselling the assets to another party.
If the accountant believes that an entity may no longer be a going concern, then this brings up the issue of whether its assets are impaired, which may call for the write-down of their carrying amount to their liquidation value. Thus, the value of an entity that is assumed to be a going concern is higher than its breakup value, since a going concern can potentially continue to earn profits.
The going concern concept is not clearly defined anywhere in generally accepted accounting principles, and so is subject to a considerable amount of interpretation regarding when an entity should report it. However, generally accepted auditing standards (GAAS) do instruct an auditor regarding the consideration of an entity’s ability to continue as a going concern.
The auditor evaluates an entity’s ability to continue as a going concern for a period not greater than one year following the date of the financial statements being audited. The auditor considers (among other issues) the following items in deciding if there is a substantial doubt about an entity’s ability to continue as a going concern:
Negative trends in operating results, such as a series of losses
Loan defaults by the company
Denial of trade credit to the company by its suppliers
Uneconomical long-term commitments to which the company is subjected
Legal proceedings against the company
If there is an issue, the audit firm must qualify its audit report with a statement about the problem.
Going Concern Mitigation
It is possible for a company to mitigate an auditor's view of its going concern status by having a third party guarantee the debts of the business or agree to provide additional funds as needed. By doing so, the auditor is reasonably assured that the business will remain functional during the one-year period stipulated by GAAS. This makes it easy for a parent company to ensure that its subsidiaries are always classified as going concerns.
May 10, 2022/ Steven Bragg/
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Going concern is an accounting term for a company that has the resources needed to continue operating indefinitely until it provides evidence to the contrary. This term also refers to a company's ability to make enough money to stay afloat or to avoid bankruptcy. If a business is not a going concern, it means it's gone bankrupt and its assets were liquidated. As an example, many dot-coms are no longer going concern companies after the tech bust in the late 1990s.
- Going concern is an accounting term for a company that is financially stable enough to meet its obligations and continue its business for the foreseeable future.
- Certain expenses and assets may be deferred in financial reports if a company is assumed to be a going concern.
- If a company is no longer a going concern, it must start reporting certain information on its financial statements.
- Negative trends that lead to no longer being a going concern include denial of credit, continued losses, and lawsuits.
Accountants use going concern principles to decide what types of reporting should appear on financial statements. Companies that are a going concern may defer reporting long-term assets at current value or liquidating value, but rather at cost. A company remains a going concern when the sale of assets does not impair its ability to continue operation, such as the closure of a small branch office that reassigns the employees to other departments within the company.
Accountants who view a company as a going concern generally believe a firm uses its assets wisely and does not have to liquidate anything. Accountants may also employ going concern principles to determine how a company should proceed with any sales of assets, reduction of expenses, or shifts to other products.
Going concern is not included in the generally accepted accounting principles (GAAP) but is included in the generally accepted auditing standards (GAAS).
Certain red flags may appear on financial statements of publicly traded companies that may indicate a business will not be a going concern in the future. Listing of long-term assets normally does not appear in a company's quarterly statements or as a line item on balance sheets. Listing the value of long-term assets may indicate a company plans to sell these assets.
A firm's inability to meet its obligations without substantial restructuring or selling of assets may also indicate it is not a going concern. If a company acquires assets during a time of restructuring, it may plan to resell them later.
Accounting standards try to determine what a company should disclose on its financial statements if there are doubts about its ability to continue as a going concern. In May 2014, the Financial Accounting Standards Board determined financial statements should reveal the conditions that support an entity's substantial doubt that it can continue as a going concern. Statements should also show management's interpretation of the conditions and management's future plans.
In general, an auditor examines a company's financial statements to see if it can continue as a going concern for one year following the time of an audit. Conditions that lead to substantial doubt about a going concern include negative trends in operating results, continuous losses from one period to the next, loan defaults, lawsuits against a company, and denial of credit by suppliers.