It is now management’s job, not just the auditor’s, to raise a red flag when there is good reason to doubt a company’s ability to remain in business.
After years of debating how to establish such a requirement, the Financial Accounting Standards Board has finalized a new rule that puts the onus on management to alert investors when a company is headed for rough waters. FASB issued Accounting Standards Update No. 2014-15 to establish new disclosure requirements about a company’s ability to continue as a going concern.
The rule requires management to assess whether there are conditions or events that raise “substantial doubt” about a company’s ability to remain a going concern for a year into the future. The standard defines terminology and provides principles for how to consider any mitigation plan management may be pursuing. It also requires an evaluation every reporting period, including interim periods.
In 2008, FASB started down the path of developing an accounting requirement around the going concern alert with a discussion paper that probed the question of how to make management, rather than auditors, primarily responsible for signaling when the company is in trouble. The idea sparked heavy debate over the time horizon management should consider as well as the criteria for determining if a disclosure is indicated. The proposal also stoked discussions about whether management could objectively make the call to provide such a disclosure when they are so personally invested in making the company successful.
FASB says the update to accounting standards provides specific guidance in GAAP regarding when and how management should disclose conditions and events that raise substantial doubt about a company’s ability to remain in business. FASB is hopeful it will increase the consistency of the timing and content of such disclosures, putting to rest the inconsistency in practice about when disclosures are warranted. “It improves the comparability of these disclosures by providing guidance on when there is substantial doubt and how the underlying conditions and events should be disclosed in the footnotes,” says FASB Technical Director Susan Cosper in a statement.
The new standard takes effect for annual periods beginning after Dec. 15, 2016, so calendar year companies will apply it from the beginning of 2017.