Going Concern and How It will Impact Your Financial Statement

Going concern basically means that a company will be able continue to meet its financial obligations as they become due.  In other words, your company is going to continue to operate for the foreseeable future, it will meet all its commitments and obligations, and there is no threat of liquidation. 

In 2014, the “Financial Accounting Standards Board” (FASB for short) issued an update about the responsibility of company management to evaluate whether there is substantial doubt about the company’s ability to continue as a going concern.

How do you know if there is substantial doubt? The FASB says that substantial doubt about an entity’s ability to continue as a going concern exists when conditions and events, considered in the aggregate, indicate that it is probable that an entity will be unable to meet its obligations as they become due within one year after the date that the financial statements are issued or available to be issued.

There are a few things a company has to do:

Step one – the company must first evaluate whether or not there is a substantial doubt about the company’s ability to continue as a going concern.

When determining substantial doubt, a company should consider several factors such as:

• Have sales decrease significantly or have there been stores or departments closures?
• Is there a shortage of products or supplies?
• Is there a decline in the value of your assets?
• Are your loans in default or are you going through debt restructure?
• Do you have negative working capital or equity?

These are some of the conditions many companies have faced during these times as a result of mandatory closures, maximum capacity restrictions and employee shortages.

If there is no substantial doubt, then the company continues to prepare its financial statements under the going concern assumption. 

If there is substantial doubt, then you go to step 2:

Company management must determine if the plans they have in place 1 -will be properly implemented and 2 - will alleviate the risk of going concern.

These plans could include additional capital infusion by owners or the reduction of costs through changes in operations.  It could also be access to funds via bank loans or even government funds that were made available as part the CARES act.

If management determines that the plans will be implemented and will alleviate the going concern, then the company should make certain discloses on their financial statements.   These disclosures should include:

• The conditions or events that raised substantial doubt (before consideration of management’s plan)
• Management’s evaluation of the significance of those conditions or events
• Management’s plans that alleviated the substantial doubt.

If management determines that the plans implemented will not alleviate the risk of going concern, then the company must disclose the following:

• The conditions or events that raised substantial doubt (before consideration of management’s plan)
• Management’s evaluation of the significance of those conditions or events
• Management’s plans that are intended to mitigate the conditions or events that raised substantial doubt.

A statement indicating that there is substantial doubt about the company’s ability to continue as a going concern within one year after the date that the financial statements are issued (or available to be issued).

It is important that you are aware of any risks of going concern so management can take action to mitigate the risk as soon as possible.