Going Concern Concept

8 August 2016

According to this concept, it is assumed that the business will continue for a fairly long time to come. There is neither the intention nor the necessity for the purpose of liquidating the particular business venture in the foreseeable future. This is because if the results of the business operation were to be accounted for on the basis of the expected liquidation it would be almost impossible for suppliers to supply goods and services and other business firms to enter into any economic transactions with the business entity.

On account of this concept, the management accountant while valuing the assets does not take into account the forced sale value of the assets. Moreover, he charges depreciation on fixed assets on the basis of their expected life rather than their market values. In exceptional situations, where the accountant has fairly good means to believe that either the whole or part of the business is going to be liquidated, it will be appropriate for the firm to report the resources/assets at their liquidation value.

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Circumstances under which an enterprise may not be going concern: It will be useful at this juncture to study the circumstances which give indications about the fact that the enterprise is not a going concern or it may cease to be a going concern very soon. In many situations, several circumstances may be present at the same time. The circumstances involving liquidity problems: An enterprise is said to be suffering from liquidity problems in a case where it is unable to generate sufficient cash from operations in order to satisfy its current obligations including long term debt maturities and possibly dividends.

Such a company may not have problems as a going concern in the short period since it may acquire the required funds by raisingthe debts, advances from the holding company, further issue of shares etc. However, such a situation is found not to continue indefinitely. Following are the circumstances under which a going concern can be taken as suffering from the problems of liquidity. Relationship with suppliers: In case a going concern is not in a position to take advantage of the cash

discounts, the firm has to pay interests for late payments and its shipments are stopped because of failure to meet terms of payment or suppliers are prepared to supply the goods only on prepayment terms. In such a case it can be concluded that the concern is having some liquidity problems. Turnover ratio: In case the turnover ratios in respect of receivables and inventories are more found to unfavourable than those prevailing in the industry, the enterprise is found to be suffering from problems of liquidity.

Using of short term funds for meeting long term requirements: In case the concern is required to use current assets for the purpose of financing long term requirements (e. g. plant expansion or product development) without the capacity of ability to refinance such requirements on a long term basis, the concern is bound to suffer from liquidity problems. Pledging of additional assets for the purpose of securing existing debt: This shows that the existing creditors are losing faith in the company on account of its vulnerable financial position. Default on loan agreements: This shows that the firm is having difficulty in repayment of the loans.

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