Academic journal article Journal of Business and Accounting

Going Concern: Decision Usefulness or Harbinger of Doom?

Academic journal article Journal of Business and Accounting

Going Concern: Decision Usefulness or Harbinger of Doom?

Article excerpt


The Public Company Accounting Oversight Board's (PCAOB) (2002) AU Section 341 addresses auditors' duties regarding the going concern assumption used in auditing publicly traded firms. Based on American Institute of Certified Public Accountants (AICPA) standards that became effective January 1989, going concern disclosures are included in U.S. law by the Private Securities Litigation Reform Act of 1995. Normally firms are presumed to be able to carry on functioning as a going concern until it is proven otherwise (PCAOB, 2002; Geiger & Rama, 2006). An entity is not presumed to be a going concern, only if it will have trouble paying its debts "without substantial disposition of assets outside the ordinary course of business, restructuring of debt, externally forced revisions of its operations, or similar actions" (PCAOB, 2002, para 01.). When considering "whether there is substantial doubt about the entity's ability to continue as a going concern for a reasonable period of time," the "reasonable period of time" is a maximum of one year from the statements' date (PCAOB, 2002, para. .02). In sum, the PCAOB (2002) and AICPA require auditors to look into a company's chances of surviving for at most a year.

AU Section 341 spells out the process of evaluating a company as a going concern. An auditor begins the consideration of going concern appropriateness based on evidence accumulated in the normal course of the audit. Sometimes more evidence is needed. For the identification of troubling circumstances, however, the PCAOB (2002) guidance is based upon the audit process being sufficient to determine potential problem areas. If the evidence suggests the company will have trouble in the near future, the auditor considers plans by management to counteract the problems and determine the probability that those plans can be executed. If this indicates there is substantial doubt as to whether the company can continue operating for a year, the auditor must write a paragraph after the opinion paragraph stating as much. The PCAOB (2002) explicitly states that an auditor's not writing such a paragraph is no guarantee that the company will continue to function for another year (PCAOB, 2002). Going concern evaluations are careful but not expected to be infallible.

There are other considerations an auditor must make in evaluating and reporting on the going concern assumption. In cases where prospective information is important to management's intentions, the auditor must evaluate the assumptions upon which that information is based. Auditors should compare earlier prospective data with what really occurred and "prospective information for the current period with results achieved to date" (PCAOB, 2002). If the prospective information does not take into account all relevant conditions, the auditor should ask management to change it. If management's plans convince the auditor there is not a problem with the entity's going concern assumption, he or she might still disclose "the principal conditions and events" that caused the alarm (PCAOB, 2002, paras. .09, .11). If the financial report disclosure does not sufficiently explain the problems with the going concern assumption, the auditor might issue a qualified or adverse opinion. When the auditor expresses doubt about a company's being a going concern in an earlier report, the subsequent reports do not include the disclosure in the comparative financial statements if the company is no longer at risk (PCAOB, 2002). Auditors are expected to treat going concern disclosures very seriously but not to be unfair to the company.


Going concern disclosures have great informative value for investors and analysts. A majority of annual financial reports receive an unqualified audit confirmation in the U.S., so going concern disclosures are important in distinguishing healthy companies from unhealthy ones. In a mass of unqualified audit reports, the going concern disclosure might be the sole part of the report to affect the value of a company and its cost of capital. …

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