Companies that are not a going concern may not have enough money to survive, and this fact must be publicly disclosed when an auditor audits their financial statements. A company may not be a going concern for a number of reasons, and management must disclose the reason why. The going-concern value of a company is typically much higher than its liquidation value because it includes intangible assets and customer loyalty as well as any potential for future returns. The liquidation value of a company will even be lower than the value of the company’s tangible assets, because the company may have to sell off its tangible assets at a discount—often, a deep discount—in order to liquidate them before ceasing operations. Examples of tangible assets that might be sold at a loss include equipment, unsold inventory, real estate, vehicles, patents, and other intellectual property (IP), furniture, and fixtures. The going concern presumption that an entity will be able to meet its obligations when they become due is foundational to financial reporting.
- If management does have a plan to sell assets, seek additional financing, start selling a new gizmo, or raise money with new stock issuances, you’ll need to evaluate it.
- This credit crunch may trickle down to suppliers who may be unwilling to sell raw materials or inventory goods on credit.
- If the auditor determines that the company is no longer a going concern, assets normally reported at cost on the balance sheet will instead be reported at a calculated liquidation value.
- Usually, liquidation value is applied when investors feel a company no longer has value as a going concern, and they want to know how much they can get by selling off the company’s tangible assets and such of its intangible assets as can be sold, such as IP.
- A going concern is an accounting term for a business that is assumed will meet its financial obligations when they become due.
- In order for a company to be a going concern, it usually needs to be able to operate with a significant debt restructuring or massive financing overhaul.
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. The going concern concept is traceable cost 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. An entity is assumed to be a going concern in the absence of significant information to the contrary.
Meet our team
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. 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 could raise significant concerns – the company’s financials should still be prepared on a going concern basis. KPMG handbooks that include discussion and analysis of significant issues for professionals in financial reporting. 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.
This means the business can pay all debt payments, fixed expenses, and operating expenses using its existing cash and a reasonable estimate of new cash flow during the year. New lenders will likely be reluctant to issue new credit, or any new credit issued will be prohibitively expensive. This credit crunch may trickle down to suppliers who may be unwilling to sell raw materials or inventory goods on credit.
What Happens If a Company Is Not a Going Concern?
Get step-by-step guidance on how to invest in Tesla stock and learn the ins and outs of this electric vehicle company. Let’s go over some red flags you can look for to see if there could be a bankruptcy in the company’s future. A going concern is often good as it means a company is more likely than not to survive for the next year. When a company does not meet the going concern criteria, it means that a company may not have the resources needed to operate over the next 12 months. Get stock recommendations, portfolio guidance, and more from The Motley Fool’s premium services.
AccountingTools
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. 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.
This presumption may be challenged at any time, but especially during uncertain economic times. A company may not be a going concern based on the financial position on either its income statement or balance sheet. For example, a company’s annual expenses may so vastly outweigh its revenue that xero hq it can’t reasonably make a profit. On the other hand, a company may be operating at a profit buts its long-term liabilities are coming due and not enough money is being made. 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.
What is the Going Concern Assumption?
Therefore, it may be noted that companies that are not a going concern may need external financing, restructuring, asset liquidation, or be acquired by a more profitable entity. Going concern is not officially included in the generally accepted accounting principles (GAAP) but some instruction is included in the generally accepted auditing standards (GAAS). 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. 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. 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.
KPMG has market-leading alliances with many of the world’s leading software and services vendors.
For instance, the value of fixed assets (PP&E) is recorded at their original historical cost and depreciated over their useful life, i.e. the expected number of years in which the fixed asset will continue to contribute positive economic value. Under the going concern principle, the company is assumed to sustain operations, so the value of its assets (and capacity for value-creation) is expected to endure into the future. However, liquidating a company means laying off all of its employees, and if the company is viable, this can have negative ramifications not only for the laid-off workers but also for the investor who made the decision to liquidate a healthy company. Liquidating a going concern can give an investor a bad reputation among potential future takeover targets.
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. Going concern is important because it is a signal of trust about the longevity and future of a company. Without it, business would not offer nearly as much credit sales as suppliers, vendors, and other companies may not pay the company if there is little belief these companies will survive. In order for a company to be a going concern, it usually needs to be able to operate with a significant debt restructuring or massive financing overhaul.
© 2024 KPMG LLP, a Delaware limited liability partnership and a member firm of the KPMG global organization of independent member firms affiliated with KPMG International Limited, a private English company limited by guarantee. 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.
