Growing Concern Over “Going Concern”

August 2014

IN THIS ISSUE

— Lack of Accountability Regarding “Going Concern” Prompts Action
— What Going Concern Issues Mean for Your Clients

GREETINGS!

Welcome to the August edition of our newsletter! In this issue, we’ll examine newly announced rules regarding accountability for “going concern” statements, and look at why they were put in place.

LACK OF ACCOUNTABILITY REGARDING “GOING CONCERN” PROMPTS ACTION

The rule that executives must attest that their company is able to function as a “going concern,” first proposed within the Financial Accounting Standards Board in 2008, have been subject to one of the more drawn-out rulemaking processes of any proposed after the financial crisis. Prior to this proposal, disclosures about a company’s ability to continue operating were generally left to the company’s auditors.

The new rule would help standardize the largely voluntary (and thus haphazard in terms of quality) disclosure system, and put into place sanctions against anyone who willfully fails to disclose material information about a company’s ability to continue as a going concern. Corporate governance activists have been joined in their efforts by disillusioned investors, who said a lack of warning prior to the financial crisis attributed to their steep losses.

WHAT GOING CONCERN ISSUES MEAN FOR YOUR CLIENTS

The disclosure of material events that could prevent a company from continuing operations are a lagging indicator of trouble, not a leading one. While such disclosure rules are likely to deter fraud in some respects (knowing that penalties exist for failing to report the underlying conditions), the disclosures themselves may come too late to protect your clients and their assets. Reviewing other SEC disclosures — as well as news articles, litigation, and other public sources — before making an investment or conducting a transaction will provide a more accurate picture in “real-time” than waiting for a quarterly or annual disclosure filing to state what the problem was. If warranted, interviews with former employees could also help ascertain the potential depth of the risk posed by uncovered issues or actions.

While rulemaking helps protect investors, it also helps protect fraud perpetrators and the companies they work for, allowing them to claim that the events involved were disclosed at some point. Diligence is a more active pursuit, however, and should be practiced in advance of any such disclosure, to allow your clients to respond with the right amount of time to take appropriate actions.