CFOs and other corporate executives will have to reveal more information in their financial-statement footnotes about their company’s ability to exist as a going concern, if a new exposure draft by the Financial Accounting Standards Board is approved.

The proposal puts the burden to assess whether a firm will continue to exist, currently left mainly to a company’s auditor, squarely on management. The auditor would still be responsible for making that disclosure; management’s disclosure would be separate.

Companies already report some ongoing-concern information in the footnotes of the management discussion and analysis (MD&A) statements in financial reports, as per Securities and Exchange Commission requirements, but what that information consists of varies greatly. There is no guidance under U.S. generally accepted accounting principles on what to disclose or how to disclose it.

While there is an inherent assumption that a company filing financial statements will continue to exist, FASB notes that concerns over an entity’s survival may arise before an entity’s liquidation is imminent or even before the possibility is flagged by an auditor. 

Greater standardization of such discloses could help investors gain perspective on a company’s finances, but it will require more work from company executives. The exposure draft (Accounting Standards Update of Topic 205) specifies that executives would have to evaluate going-concern uncertainties for each annual and interim reporting period. It also calls for a 24-month assessment period after a financial-statement date passes.

Where there is potential that a company will not meet obligations that will ensure its existence, FASB proposes that the company disclose in footnotes a description of the principal conditions and events that give rise to the inability to meet obligations, the possible effects those conditions and events could have on the company, management’s evaluation, any mitigating conditions, and managements’ plans to address the matter.

Under FASB’s proposal, if a company concludes there is substantial doubt it will survive, “the disclosures would need to include a statement to that effect that uses the words ‘substantial doubt’ and specific phrases that use the term ‘going concern,’ ” according to a PricewaterhouseCoopers note on the proposal last week.   

But some observers think the additional disclosures may not be all that necessary. A working paper from professors at Duke University in March suggested that companies already present sufficient information in MD&A statements.

The paper notes that the existing MD&A disclosures are more useful for predicting bankruptcy than the commonly used barometer that looks at financial ratios three years prior to bankruptcy. The professors looked at the three years leading up to bankruptcy for 121 firms with an average of $437 million in assets between 1995 and 2011 and matched the data to 121 similar non-bankrupt firms.

“Our results suggest that there is substantial information already contained in the MD&A regarding a firm’s ability to continue as a going concern. How much additional benefit would be added from the FASB proposal is unclear,” says co-author William Mayew, associate professor at Duke University’s Fuqua School of Business. His paper found that textual MD&A disclosures are leading indicators of bankruptcy, with an overall diagnostic accuracy of 73%.

FASB is seeking comments by September 24, 2013 on whether going-concern evaluations should be required of management, considering that executives could be inherently biased. It is also looking for comments on such issues as the frequency of the disclosures and whether the disclosed information would be relevant to financial-statement users.

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