Going Concern: What Nonprofit Organizations’ Management Teams Need to Know
Financial reporting issues remain hot topics for those in the nonprofit industry, but one of these issues in particular has historically lacked direction and guidance for for-profit and nonprofit organizations alike: going concern. To help provide clarity around the issue, the FASB recently issued Accounting Codification Update (ASC) 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.
Nonprofit organizations should take note.
For the sake of background, the principle of going concern is embedded into our accounting conceptual framework. It’s based on the assumption that a nonprofit will remain in operation for the foreseeable (a reasonable time period) future. Conversely, this also means the organization will not be forced to cease its operating and programmatic activities and liquidate its assets in the near term. By making this assumption, management is justified in deferring the recognition of certain expenses until a later period, when the organization will presumably still be operating to achieve its mission and using its assets in the most effective manner possible.
The going concern principle is presumed as the basis for preparing financial statements—unless and until the nonprofit’s liquidation becomes imminent. If and when a nonprofit’s liquidation does become imminent, financial statements should be prepared under the liquidation basis of accounting in accordance with Subtopic 205-30. For years, U.S. auditing standards assisted auditors in evaluating whether there was substantial doubt about a nonprofit’s ability to continue as a going concern for a reasonable period of time, not to exceed one year beyond the date of the financial statements being audited. However, this created difficulty and uncertainties, as management teams were making the assertion in the financial statements that their organization would continue as a going concern, even though the teams themselves were not required by GAAP to make any disclosures to the fact.
To clarify, a nonprofit is assumed to be a going concern in the absence of significant information to the contrary (e.g., an organization’s inability to meet its obligations as they come due without substantial asset sales or debt restructurings). Even if a nonprofit’s liquidation is not imminent, there may be conditions or events that raise substantial doubt about the organization’s ability to continue as a going concern. In those situations, financial statements should continue to be prepared under the going concern basis of accounting. However, the user of the financial statements should be informed that these conditions exist. With the issuance of the FASB’s ASU, there is now guidance in GAAP about management’s responsibility to evaluate whether there is substantial doubt about a nonprofit’s ability to continue as a going concern and, if so, the need to provide related footnote disclosures.
When it comes to preparing annual financial statements for a nonprofit’s reporting period, management should evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the organization’s ability to continue as a going concern within one year after the date that the financial statements are issued (or, when applicable, within one year after the date that the financial statements are available to be issued). Among other issues, management should consider:
- Negative trends in operating results, such as a series of losses;
- Loan defaults by the nonprofit;
- Denial of trade credit to the nonprofit by its suppliers;
- Uneconomical long-term commitments to which the nonprofit is subjected; and
- Legal proceedings against the nonprofit.
This evaluation should be based on relevant conditions and events that are known and reasonably knowable at the date that the financial statements are issued or at the date that the financial statements are available to be issued. Substantial doubt about a nonprofit’s ability to continue as a going concern exists when relevant conditions and events indicate that it’s probable the organization will be unable to meet its obligations.
It’s also possible for nonprofits to mitigate their going concern status by having a third party guarantee their debts or agree to provide additional funds as needed. By doing so, a nonprofit’s management can be reasonably assured that they will remain functional during for a reasonable period of time stipulated by GAAP.
When a nonprofit’s management team does identify conditions or events that raise substantial doubt about their ability to continue as a going concern, they should first consider whether their plans to mitigate these relevant conditions or events will effectively alleviate the substantial doubt. Based on this secondary evaluation, there are a number of important considerations to make regarding financial statements and disclosures, and we encourage you to reach out to us for more information and guidance, should your organization find itself in such a situation.
In the meantime, we encourage you to familiarize yourself with the FASB’s ASU 2014-15, which provides helpful guidance in GAAP about management’s responsibilities surrounding these issues.
What are your organization’s concerns about going concern?