This is a basic assumption for preparing its financial statements, which means that the company has neither the need nor the intention to actually liquidate or reduce its operations. This term also refers to the ability of a business to earn enough money to stay afloat or avoid bankruptcy.
If a company is not a going concern it means that the company has declared bankruptcy and its assets have been liquidated. As an example, many dot-com companies are no longer going businesses after the crash of technology in the late 1990s.
Beginning
Accountants use the "going concern" principle to decide what types of reports should appear in financial statements.
Governing companies may defer their long-term asset reporting to a more appropriate time, such as an annual report, as opposed to quarterly earnings.
A company remains a going concern when the sale of its assets does not affect its ability to continue operating; for example, the closure of a small branch that reassigns its employees to other departments within the company.
Accountants who view a company as a going concern generally consider that the company uses its assets wisely and does not have to liquidate anything. The going concern principle allows the company to defer some of its prepaid expenses until future accounting periods.
Accountants can also use the going concern principle to determine how a company should proceed both with its sale of assets and its reduction of expenses or changes to other products.
Auditing standards
Generally accepted auditing standards instruct an auditor to consider a company's ability to continue as a going concern.
In general, an auditor examines the financial statements of a company to see if it can continue as a going concern for one year after the time of the audit.
What indicates that a company is not a going concern?
A company is assumed to be a going concern in the absence of meaningful information to the contrary.
Certain alerts may appear in the financial statements of companies. These alerts indicate that a company may not be a going concern in the future.
For example, the list of long-term assets does not normally appear in the quarterly financial statements of the company.
It also does not appear as an item on the balance sheet. If the value of long-term assets is included, it could be indicating that the company plans to sell these assets in the near future.
Among the conditions that generate substantial doubts about a going concern are negative trends in operating results, continuous losses from one period to another, loan defaults, lawsuits against the company and denial of credit by suppliers.
It can also indicate that a company is not a going concern the inability of the company to meet its obligations as they become due, without a substantial restructuring of its debt or a major sale of assets.
Hypothesis
Under the going concern assumption, a company is considered to continue in business for the foreseeable future. The going concern assumption is a fundamental assumption in the preparation of the financial statements, unless the liquidation of the company is imminent.
Under the going concern assumption, a company is commonly considered to continue in business for the foreseeable future, without the intention or need for liquidation, to cease business, or to seek protection from creditors in accordance with laws or regulations.
The value of a company that is assumed to be a going concern is greater than its liquidation value. In other words, an ongoing business can continue to make a profit.
Preparation of financial statements
The preparation of the financial statements under this assumption is commonly known as the going concern basis. If the liquidation of a company is imminent, the financial statements are prepared according to the liquidation accounting basis.
General purpose financial statements are prepared on a going concern basis, unless management intends to liquidate the business or cease operations, or has no realistic alternative but to do so.
Consequently, unless the going concern assumption is inappropriate in the circumstances of the company, assets and liabilities are recorded on the basis that the company will be able to realize its assets, cancel its liabilities and obtain refinancing (if necessary ) in the normal course of business.
Examples
Example 1
A company makes a chemical known as Chemical-X. Suddenly, the government imposes a restriction on the manufacture, import, export, marketing and sale of this chemical in the country.
If Chemical-X is the only product the company makes, the company will no longer be a going concern.
Example 2
The National Company is in serious financial trouble and cannot pay its obligations. The government gives the National Company a ransom and a guarantee of all payments to creditors.
The National Company is a going concern despite its current weak financial position.
Example 3
The Eastern company closes one of its branches and continues with the others. The company is a going concern; Closing a small portion of the business does not affect the ability of the business to operate as a going concern.
Example 4
A small business cannot make payments to its creditors due to a very weak liquidity position. The court grants the liquidation order of the company at the request of one of the company's creditors.
The company is no longer a going concern. There is sufficient evidence available to believe that the company cannot continue its operations in the future.
