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The going concern assessment is inherently complex and judgmental and will be under heightened scrutiny for many companies this year due to COVID-19. Management should carefully consider the requirements of IFRS Standards and reevaluate their historical approach to the going concern analysis; it may no longer be sufficient given the current economic environment. In addition to IAS 1, IFRS 79 requires disclosure of information about the significance of financial instruments to a company, and the nature and extent of risks arising from those financial instruments, both in qualitative and quantitative terms.

Red Flags Indicating a Business Is Not a Going Concern

By contrast, the going concern assumption is the opposite of assuming liquidation, which is defined as the process when a company’s operations are forced to a halt and its assets are sold to willing buyers for cash. The reason the going concern assumption https://www.simple-accounting.org/ bears such importance in financial reporting is that it validates the use of historical cost accounting. When an auditor issues a going concern qualification, the way their opinion is disclosed depends on the structure of the business.

1. The Board must put this information into the footnotes included in the financial statements and state any factors that may threaten that status.
2. The auditor is required to disclose any negative trends in the company’s business operations.
3. A manufacturing firm facing temporary supply chain issues but with a strong market presence and recovery plans in place is regarded as a going concern, as it’s expected to overcome current challenges and continue operations.
4. Signs include severe financial losses, substantial debt, legal troubles, market withdrawal, or significant disruptions in operations.

Implications of Going Concern

Management must also identify the basis in which the financial statements are prepared and often disclose these financial reports with an audit report with a going concern opinion. 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. A going concern, also known as a going concern assumption or going concern principle, is an accounting assumption stating that a business will stay in operation for the foreseeable future. In essence, that means that there is no threat of liquidation for the foreseeable future, which is usually perceived as a period of time lasting for 12 months. When the financial statements are prepared for the annual report, it is the job of the Board of Directors to decide if the company is still a going concern.

Consequences of a Negative Going Concern Opinion

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.

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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 assumes that the business will remain in existence long enough for all the assets of the business to be fully utilized. If a company is not a going concern, the company may be revalued at the request of investors, shareholders, or the board.

Disclosure of a going concern qualification

When considering different scenarios, it may be helpful to refer to projections for economic activity produced by bodies such as the UK Office for Budget Responsibility or the International Monetary Fund. Before an auditor issues a going concern qualification, company leadership will be given an opportunity to create a plan to take corrective actions that can improve the outlook for the business. If the auditor determines the plan can be executed and mitigates concerns about the business, then a qualified opinion will not be issued. However, generally accepted auditing standards (GAAS) do instruct an auditor regarding the consideration of an entity’s ability to continue as a going concern. Most troubling is that auditors might fail to issue a negative going concern opinion because of the lack of auditor independence.

If managers or auditors believe that a company is at risk of going bust within 12 months, they are required to formally express that doubt in their financial accounts. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation. An overview discussion of going concern assessments and financial reporting implications.

It functions without the threat of liquidation for the foreseeable future, which is usually regarded as at least the next 12 months or the specified accounting period (the longer of the two). Hence, a declaration of going concern means that the business has neither the intention nor the need to liquidate or to materially curtail the scale of its operations. If a company is not a going concern, that means there is risk the company may not survive the next 12 months. Management is required to disclose this fact and must provide the reasons why they may not be a going concern.

Disclosures on material uncertainties should be specific to the entity’s circumstances. Users will want to understand how management reached their conclusion (including the basis of any assumptions used in their assessment) and how the uncertainty would impact the entity’s resources, liquidity and solvency. The auditor is required by the Securities and Exchange Commission to disclose in the financial statements of a publicly traded company whether going concern status is in doubt. This can protect investors from continuing to risk their money on a business that may not be viable for much longer.

The ever-evolving complexities attributable to economic uncertainty may disrupt business as usual. When forecasting becomes less reliable and the past no longer predicts the future, the going concern assessment becomes much harder to document and update, and robust disclosures much more critical. Even if the company’s future is questionable and its status as a going concern appears to be in question – e.g. there are potential catalysts that how to calculate workers compensation cost per employee could raise significant concerns – the company’s financials should still be prepared on a going concern basis. Recognising provisions for future losses or anticipating gains on disposals of assets would not be appropriate where the entity is not a going concern and the financial statements are still being prepared under IFRS. The going concern principle is the assumption that an entity will remain in business for the foreseeable future.

Helping clients meet their business challenges begins with an in-depth understanding of the industries in which they work. In fact, KPMG LLP was the first of the Big Four firms to organize itself along the same industry lines as clients. If a company’s liquidation value – how much its assets can be sold for and converted into cash – exceeds its going concern value, it’s in the best interests of its stakeholders for the company to proceed with the liquidation. The valuation of companies in need of restructuring values a company as a collection of assets, which serves as the basis of the liquidation value. In addition, management must include commentary regarding its plans on how to alleviate the risks, which are attached in the footnotes section of a company’s 10-Q or 10-K.

This concept is fundamental in financial reporting as it underpins the preparation of financial statements. Impacts from a fall and winter COVID-19 surge may bring further uncertainty to many companies. Management should continually evaluate the effects of COVID-19 on the company’s going concern assessment, including information obtained after the reporting date and up to the date the financial statements are authorized for issuance. Economic uncertainty has been prevalent in global markets over the last several years due to many unexpected macro events – from COVID-19 and the related supply chain disruptions to international conflicts and rising interest rates.

Management’s intentions regarding future operations and use of available mitigating actions against adverse conditions should also be taken into account. A negative judgment may also result in the breach of bank loan covenants or lead a debt rating firm to lower the rating on the company’s debt, making the cost of existing debt increase and/or preventing the company from obtaining additional debt financing. They can help business review their internal risk management along with other internal controls. A going concern is an accounting term for a business that is assumed will meet its financial obligations when they become due.

For a company to be a going concern, it must be able to continue operating long enough to carry out its commitments, obligations, objectives, and so on. If there is uncertainty as to a company’s ability to meet the going concern assumption, the facts and conditions must be disclosed in its financial statements. As part of their assessment, management must consider whether there are any events or conditions that cast significant doubt upon the entity’s ability to continue as a going concern. Resulting uncertainties are considered material if their disclosure could reasonably be expected to affect the economic decisions of shareholders and other users of the financial statements.

If not a Going Concern, a company may need to liquidate assets, restructure debts, or alter its operations significantly. If management conclude that the entity is a going concern, the financial statements should be prepared on a going concern basis. If, in reaching this conclusion, management had to apply significant judgement, then this judgement should be disclosed (IAS 1.122). The most severe but plausible downside scenario will need to be assessed when forecasting. This will not be a straightforward task, as it will require consideration of both sector specific and broader economic issues, as well as any actions or decisions taken by management.