Going concern – all entirely obvious, except the parts that aren’t

Here’s a tentative agenda decision recently issued for comment by IFRIC:

  • The Committee received a request about the accounting applied by an entity that is no longer a going concern (as described in paragraph 25 of IAS 1 Presentation of Financial Statements). The request asked whether such an entity…can prepare financial statements for prior periods on a going concern basis if it was a going concern in those periods and has not previously prepared financial statements for those periods.
  • Paragraph 25 of IAS 1 requires an entity to prepare financial statements on a going concern basis ‘unless management either intends to liquidate the entity or to cease trading, or has no realistic alternative but to do so’. Paragraph 14 of IAS 10 states that ‘an entity shall not prepare its financial statements on a going concern basis if management determines after the reporting period either that it intends to liquidate the entity or to cease trading, or that it has no realistic alternative but to do so’.
  • Applying paragraph 25 of IAS 1 and paragraph 14 of IAS 10, an entity that is no longer a going concern cannot prepare financial statements (including those for prior periods that have not yet been authorized for issue) on a going concern basis.
  • The Committee therefore concluded that the principles and requirements in IFRS Standards provide an adequate basis for an entity that is no longer a going concern to determine whether it prepares its financial statements on a going concern basis.

As is often the case, the agenda decision may make the issue sound too obvious ever to have arisen. The example provided in the underlying submission is helpful:

  • A company is behind the deadline for preparing financial statements for the last three years (e.g. 2017, 2018 & 2019). The company had no issue with going concern for the first two years (i.e., 2017 & 2018). However, the management decided voluntarily to liquidate the company after the end of the third year and to prepare financial statements for each preceding years (first, second and third, each in a separate document).

The submission speculated, not entirely unreasonably, that if the 2017 and 2018 financial statements would have been prepared on a going concern basis under the usual timelines, then that shouldn’t change because of the company’s lateness; it argued among other things that “preparing financial statements for preceding years on other than going concern basis (for example, the liquidation basis) although the going concern assumption was valid after the reporting date of each preceding year, will mislead users about the history of the company…” But the staff paper saw the issue quite straightforwardly: “Events after the reporting period are those events, favourable and unfavourable, that occur between the end of the reporting period and the date when the financial statements are authorized for issue…. Accordingly, the decision to liquidate the entity is an event after the reporting period in respect of (each of the 2017, 2018 and 2019) financial statements.” And, no doubt, it’s hard to argue that readers in that situation, after their three-year wait for information on their doomed entity, would be better served by doing it any other way.

Still, the example does point to some oddities in going concern disclosure, Canadian regulators among others have often emphasized the importance of specifically disclosing whether or not various disclosed risks and uncertainties cast significant doubt upon an entity’s ability to continue as a going concern, stating that “absent such linking disclosure, the going concern risk is not highlighted for readers to assess the likelihood and impact of the uncertainties disclosed on the issuers’ financial condition.” But the implication that such disclosure inherently indicates a higher risk to readers is a suspect and arbitrary one. This is how I put that in the past:

  • the key point in IAS 1.25 is about the relevance of existing uncertainties to assessing the recognition and measurement decisions taken in preparing the statements, not about their implications as a whole. This is logical because any number of reasons might exist why a particular set of financial statements might ultimately provide a poor guide to the future (subsequent changes in economic conditions, enhanced competition, departures in key personnel, and so on), but none of these possibilities would typically be highlighted there. That’s the importance of MD&A and other aspects of the continuous disclosure regime…
  • Of course the entity should disclose information about key risks and how it manages them. But frankly, there can be greater hidden risk to investors in investing in an entity with no going concern uncertainty (but subject to wide volatility) than in a horribly challenged entity (which might be little more than a penny stock anyway). So why should one situation carry a neon warning sign of disclosure, and not the other?

Further, while a non-technical reader might appreciate a warning that a particular company’s financial statements (in a typical form of wording) “do not include any adjustments relating to the recoverability and classification of assets and liabilities which might be necessary should the Company be unable to continue in existence,” that same non-technical reader could be forgiven by being puzzled, even in a general sense, about what those adjustments might actually be (for example, when the remaining material assets and liabilities are all financial instruments, all classified as current).

So the message perhaps ought to be, let’s worry less about disclosing “going concern,” and more about, well, just disclosing concerns…

The opinions expressed are solely those of the author

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