Change in Reporting Requirements for Companies which may be in Financial Distress

On Behalf of | Oct 3, 2014 | Uncategorized |

We have recently been advised by our friends at national accounting firm Hein & Associates of a recent change in reporting requirements for companies which may be in financial distress. As you may be aware, CPAs follow standards published by the Financial Accounting Standards Board (FASB). FASB recently issued Accounting Standards Update (ASU) No. 2014-15, Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. The new standard requires management to perform annual and interim assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued.

As you may be aware, GAAP presumes that an entity will continue as a going concern until liquidation becomes imminent. Before this occurs, management may not be sure about the ability of the company to continue as a going concern or may have some doubt as to its ability to continue. Prior to this new standard, we have been advised that GAAP did not include specific guidance about management’s responsibility to evaluate whether there is substantial doubt about the organization’s ability to continue as a going concern. The only guidance that apparently existed was within generally accepted auditing standards. The updated standard, however, now provides that once management identifies “substantial doubt” about the entity’s ability to continue as a going concern, the entity must disclose the following:

1. Principal conditions and/or events that raise substantial doubt

2. Management’s evaluations of the significance of substantial doubt conditions and/or events

3. Management’s plans to alleviate substantial doubt

If management’s plans do not alleviate substantial doubt, the entity will be required to include a statement in the footnotes of their financial statements indicating that there is substantial doubt about the entity’s ability to continue as a going concern. We are advised that this standard will go into effect in the annual periods ending and interim periods beginning after December 15, 2016.

In bankruptcy cases, including those administered by a trustee, we will often review the debtor’s financial statements to see if there were any disclosures made regarding management’s view on whether the company was in financial distress to the point where a “going concern” opinion is included in the financial statements. Given this new FASB standard, companies and their accountants will be subject to more stringent disclosure requirements than previously was the case. Presumably, failure of management or their accountants to follow this new standard may give rise to liability on their part, which may give rise to claims which may benefit a bankruptcy estate and its creditors.

SB has represented estate representatives in several bankruptcy cases and have identified potential sources of recovery which did not immediately appear in the schedules, including claims against directors, officers, other insiders and professionals. While it is probably too early to tell if this new FASB standard would lead to such claims, it is important for estate representatives and their counsel to keep their eyes open for a failure to meet disclosure requirements. In addition, for lenders who require audited financial statements, this new standard may offer some further protection in underwriting a company which may be in distress. Pending this new standard going into effect, lenders may want to include a question in their due diligence process which addresses this disclosure as the lack of a currently required “going concern” opinion in a financial statement may not provide the whole story. 

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