Here at GAAP Dynamics, we are continuing to focus on the accounting impacts of the COVID-19 pandemic by providing helpful reminders about important considerations on a variety of accounting topics. We’ve even packaged a COVID-19 collection, which includes a refresher of accounting and reporting issues arising from COVID-19.
Today’s blog topic is on a company’s ability to continue as a going concern, which is governed by ASC 205-40, Presentation of Financial Statements – Going Concern. ASC 205-40 presumes that a company will continue as a going concern unless (and until) the company’s liquidation becomes imminent. To continue as a going concern means that the company is able to continue operating for a period of time that is sufficient to carry out its commitments and obligations (i.e., the company will not have to liquidate in the foreseeable future). However, the related impacts of COVID-19 such as business interruptions, decreased demand, and restrictions on operations (to name a few) have caused companies to reassess their current economic situation and reporting.
Company management is required to evaluate whether there are conditions and/or events that raise substantial doubt about its ability to continue as a going concern within one year after the date on which the interim or annual financial statements are issued. But what exactly is substantial doubt? Substantial doubt exists when it is probable (within one year after the date on which the interim or annual financial statements are issued) that the company will be unable to meet its obligations as they become due. Note that the term “probable” is used consistently with its use in ASC 450, Contingencies (the future event or events are likely to occur, which is a higher threshold than “more likely than not.” but lower than “virtually certain”).
When initially assessing the company’s ability to meet its obligations, management should consider both quantitative and qualitative information that is available (i.e., known and reasonably knowable) as of the issuance date of the financial statements about the following conditions and events:
- The company’s current financial condition, including its liquidity sources at the date that the financial statements are issued (e.g., available liquid funds, available access to credit)
- The company’s conditional and unconditional obligations due or anticipated within one year after the date that the financial statements are issued (regardless of whether those obligations are recognized in the financial statements)
- The funds necessary to maintain the company’s operations considering its current financial condition, obligations, and other expected cash flows within one year after the date that the financial statements are issued
- Other items such as negative financial trends, other indications of possible financial difficulties (e.g., loan defaults, restructuring debt, new methods of financing), internal matters such as work stoppages and external matters such as legal proceedings, loss of a patent, etc.
If substantial doubt is raised about the company’s ability to continue as a going concern, management must evaluate whether its plans that are intended to mitigate those conditions and events, when implemented, will alleviate the substantial doubt about its ability to continue as a going concern. If it is probable that management’s plan will be effectively implemented AND it is probable that management’s plan will mitigate the conditions that raise the substantial doubt, the company should disclose the following in accordance with ASC 205-40-50-13:
- The principal conditions or events that raised substantial doubt, before consideration of management’s plans,
- Managements evaluation of the significance of those conditions or events; and
- Managements plans that alleviated the substantial doubt.
If it is not probable that management will be able to effectively implement its plan or if it is not probable that the plan will mitigate the relevant conditions that gave rise to the substantial doubt, the company should also disclose a statement indicating that there is substantial doubt about the its ability to continue as a going concern within one year after the date that the financial statements are issued.
It’s important that companies carefully consider their specific facts and circumstances (as well as risk exposures) when analyzing how recent COVID-19 impacts may affect their financial reporting.
Don’t forget that the auditor also has a responsibility to evaluate whether there is substantial doubt about a company's ability to continue as a going concern for a reasonable period of time, not to exceed one year beyond the date of the financial statements being audited! PCAOB Auditing Standard 2415, Consideration of an Entity's Ability to Continue as a Going Concern, and PCAOB Staff Audit Practice Alert (SAPA) No. 13, Matters Related to the Auditor’s Consideration of a Company’s Ability to Continue as a Going Concern, govern the requirements for PCAOB audits. Additionally, for non-PCAOB audits, Statement on Auditing Standards No. 132 (SAS 132) governs the going concern evaluation, which was issued by the AICPA’s Auditing Standards Board (ASB).
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