What is a going concern?
A going concern is an accounting term that refers to a business’s ability to remain operating with available financial resources at least in the short term and without the immediate threat of shutting down or having to liquidate its assets to meet its financial obligations. When a company prepares its financial statement, it’s assumed that it will continue to operate as, in accounting parlance, a going concern.
How is a going concern established?
Under the going concern basis of accounting, a company is assumed to continue operations for the foreseeable future, and its financial statements—including reports on its financial position and cash flows—are prepared as such. In the U.S., under guidelines from the Financial Accounting Standards Board (FASB), which sets responsible accounting practices, a company’s management takes responsibility for assessing the company’s ability to operate as a going concern.
A going concern assumes that a company will be able to generate revenue to maintain its day-to-day operations as well as be able to meet its financial obligations at least in the 12 months from the release of its most recent financial statement. A company does not, however, have to mention “going concern” specifically in its financial statements.
Is a going concern part of GAAP?
A going concern falls within the parameters of generally accepted accounting principles (GAAP) outlined by the FASB in the U.S. The term assumes that a company is able to operate when it files its financial statement. However, if there is substantial doubt, a going concern qualification is issued by that company’s auditor, which is in accordance with GAAP rules on full disclosure and transparency to investors and stakeholders about the potential risks to the company’s future operations in the foreseeable future.
The American Institute of Certified Public Accountants (AICPA), a professional organization of CPAs in the U.S., provides a guideline on an auditor’s responsibilities in establishing the audit on the company’s ability to operate as a going concern.
What is a going concern qualification?
In preparing to file a financial statement, a company’s management is responsible for providing evidence that sufficient financial resources exist to support the company’s continued operation as a going concern.
However, if there is substantial doubt about the company’s ability to continue as a going concern, the auditor of the financial statement must issue a going concern qualification, which is an opinion that expresses substantial doubt about the company’s ability to operate. Any doubt is typically reported within the financial statement and could appear as a separate section such as “Notes on Risk.”
What are the limitations of the going concern basis of accounting?
The going concern basis of corporate accounting helps companies and auditors abide by the full disclosure principle of accounting, but there are some limitations. For instance, a going concern only assesses a company’s current ability to operate (i.e., within the next 12 months), but it doesn’t provide an assessment of its ability to operate beyond that.
While it’s assumed that a company will continue to operate, unforeseen events or circumstances could change this. For instance, unexpected severe weather could cause catastrophic damage to a company's plants, halting its operations. Similarly, a sudden change in regulation could disrupt demand for a company's product.
Executive management may also be too confident in their company’s ability to operate as a going concern. They could be holding back or misrepresenting financial information from auditors, compliance staff, and investors that might impair the company’s ability to pay wages, maintain inventory, or conduct other crucial operations.
