The ‘going concern’ assumption is an accounting term that describes companies that are capable of operating without any significant need or threat of liquidation. A company that’s not a ‘going concern’ is facing formal insolvency or is probably trading while being insolvent.
What does this mean for companies and directors?
A number of known firms have filed for insolvency in recent years in the UK, and it’s easy to understanding why the ‘going concern’ aspect is so relevant. It is important for directors to understand if the company is actually a ‘going concern’. When a company prepares financial accounts as a going concern, it means that it can continue operations and trade normally in a foreseeable future. It also implies that the company doesn’t need to liquidate assets nor intends to do so. The directors of a company are responsible for proving that the company is a ‘going concern’ by offering relevant details and accurate financial statements.
While dealing with such assumptions, there are three principles
- Assessing going concern
Understanding the situation better
As stated, company directors are responsible for offering an extensive assessment if the going concern assumption for the business is appropriate. This is done in form of half-yearly and annual financial statements, and this assumption doesn’t hold valid if the directors want to liquidate assets or wish to stop trading. Expectedly, companies have more control on the cash flow and budget are likely to more financially sound and will be more appropriate for the going concern assumption. For businesses entering insolvency, the game is all different, because they have either stopped trading or have been running into losses for a while.
Large companies are usually subject to an auditor’s report, but in general, directors should prepare a budget and must figure out the necessary numbers, such as trading estimates and sales forecast. Also, allow borrowing arrangements should be monitored adequately to ensure that payments can be made in time. Apart from budgets and borrowing information, directors of smaller companies must also furnish other details related to markets, contingent liabilities, cash flow expectations and products.
What can last doubt over the going concern assumption?
In case of large companies, the issues are checked by the auditor, but in general, factors like negative trends in cashflow, issues related to payments, loan defaults, denial of credit by creditors, and legal processes initiated against the business may have an impact.
For smaller companies, the factors remain the same, and it is the duty of the accountant to point out that the assumptions aren’t safe or the statements must be reassessed. Negative cashflow forecasts, loss of suppliers, credit and contracts are also considered to be indicators against the going concern assumption.