Management Going Concern Reporting: Impact on Investors and Auditors

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Abstract

The Financial Accounting Standards Board (FASB)’s Accounting Standards Update (ASU) 2014-15 required, effective for fiscal years ending after December 15, 2016, managements to evaluate whether there is substantial doubt about the firm’s ability to continue as a going concern, and provide disclosures in financial statement footnotes. Prior to this, information about a firm’s going concern status came from its auditor, which issues a going concern modified (GCO) or clean audit opinion on the financial statements. We examine two research questions. First, is the new information provided by management valued by investors? We find that the earnings response coefficients for firms with clean audit opinions, but not that for GCO firms, increases in the first year of the standard. Among the clean firms, the largest increase is for those that provide explicit information, either that there are no going concern issues, or that there were concerns about substantial doubt that were alleviated by management plans. Second, we examine whether there was a change in auditors’ reporting strategy. We find, after controlling for changes in client characteristics, that auditors became more conservative in the issuance of GCOs in the first year of the standard. This increased conservatism is more marked toward clean clients whose managements also confirm the absence of going concern issues, than toward clients that disclose going concern issues. Thus, while there is some evidence that investors view ASU 2014-15 as providing useful information, the change in auditors’ reporting strategy seems to be an unexpected consequence of the standard.

Authors

• Jagan Krishnan, Temple University

• Jayanthi Krishnan, Temple University

• Eunju Lee, Temple University

• Steven Maex, Temple University