Classifying a business as a going concern is a major factor that can influence several different aspects of the company.
At first glance, the term might seem as if it is implying that there is an inherent problem with the operations of the specific entity, but this couldn’t be further from the truth.
Indeed, having a going concern classification actually indicates that the company has sufficient resources to support its operations and that there are no apparent obstacles that might impact it in the foreseeable future.
Being a going concern business determines what information should be included in the financial reports and also opens the option for a particular type of sale.
Selling a business as a going concern has several benefits, including certain VAT exemptions.
To be successful, however, the sale of a business as a going concern must meet numerous requirements that affect both the business itself as well as the buyer.
To navigate the complexities of the process and reap the maximum benefits it provides, it may be wise to turn to a specialized service such as Hudson Weir Ltd.
The experts can help you identify if the current terms of the sale constitute a going concern business and if all the necessary rules have been followed.
A Going Concern Business
The term going concern is used in accounting to denote a company that has ample resources to meet its obligations, is under no threat of liquidation or entering bankruptcy proceedings, and is generating sufficient income to stay afloat for the time being.
The minimum time period is at least the next 12 months.
Despite being a key accounting concept, going concern doesn’t have a clear definition under the Generally Accepted Accounting Principles (GAAP), resulting in plenty of room for interpretation.
At the same time, the Generally Accepted Auditing Standards (GAAS) state that an auditor must verify the business’s ability to continue operating as a going concern.
If a company is deemed a going concern, it can then defer reporting its long-term assets at cost instead of at their current or liquidating value.
The business can keep its going concern qualification even if it decides to sell some of its assets as long as the sale doesn’t impact the underlying operations in a significant manner.
One example could be the sale of a small branch with the affected employees being reassigned to other company departments.
All red flags indicating that a business may lose its going concern status in the near future must be acknowledged.
If the audited company is publicly traded, the auditor is required by the Securities and Exchange Commission (SEC) to fully disclose any concerns about the going concern status of the entity.
This measure is implemented so that investors may be adequately informed about the potential risks surrounding the particular business.
Upon finding sufficient evidence that a private business might not be able to maintain its going concern qualification, the auditor must disclose their conclusions in the audit report.
They should also inform the business owner about their concerns about the business’s future viability.
Some Common Red Flags Include:
- Low current ratio – comparing the current assets to the current liabilities shows the current ratio of the business. If the result is lower than 1, it is a signal that the entity may have trouble paying its short-term liabilities due to insufficient cash at hand and a lack of easily liquidated assets.
- Loss of key employees – if a key employee such as a senior manager or valuable expert departs, it could place a significant burden on the business as it could be unable to easily find a substitute for the expertise provided by the leaving individual.
- Legal problems – any existing lawsuits or potential legal issues could put a significant strain on the resources of the business, or in some cases, threaten its overall operations.
- Market share – examining the position of the company on the market could reveal negative trends such as declining market share, increased pressure from competitors, reduced demand for its products, etc.
Selling A Going Concern Business
The basic definition of selling a business as a going concern is that the sale must include the entirety of the entity and not just a portion of its assets.
The transition of ownership must allow the buyer to keep the current operations running. The first step in the process is to confirm the going concern status of your business.
At his point, turning to an expert to look at the financial statements, trade figures, cash flow reports, etc., could be immensely helpful in order to confirm the conclusions.
The business must also maintain its operations fully until the exact day of the transfer.
This is a crucial component of the deal as the buyer must have access to the entirety of the assets needed to run the business as well as all accounts for materials, other goods, or the existing supply chains.
After all, if the company is not currently operational, it cannot be sold as a going concern.
Finally, in order to claim VAT exemption on the sale of your business, several requirements must be fulfilled.
As we have already said, the transaction needs to include all company assets, but the buyer must also meet certain conditions.
These include the buyer being a taxable person and that the nature of the business should remain largely the same.
The operations may not be completely identical but they should largely stay in the same sector.
Depending on the specific jurisdiction, you may also need to inform the relevant government agencies about particular assets, such as land or buildings, that would have otherwise been considered as standard-rate for VAT purposes.
Keep in mind that the terms of the Transfer of a Business as a Going Concern (TOGC) sales contract could become muddled or exhibit a high degree of ambiguity.
A business expert may be needed to confirm whether the sale actually constitutes a going concern business or if it involves just a part of the entity’s assets.