Firm Life Cycle and Predictability of Going Concern

Objective: The main objective of financial reporting is to provide relevant and reliable information to stakeholders. The going concern assumption is a basic principle that underlies the preparation of financial statements. Based on the assumption of going concern, it is considered that a firm will continue its activity for the foreseeable future and does not have the intention and necessity of liquidation and cessation of business, or does not seek to protect creditors according to laws or regulations. According to accounting standards, management must assess the firm ability to continue operating when preparing financial statements. To assess the appropriateness of the going concern assumption, management considers all available information about at least the next twelve months after the end of the reporting period, and not limited to it. Management assessment of the going concern assumption requires judgment at a particular point in time about the future outcome of events or conditions that are inherently uncertain. One of the methods that can be used to predict the continuation of a firm activity is to focus on the firm life cycle. Knowing the stage of the firm life cycle can help the management in assessing the continuity of the activity. In this research, it has been investigated whether using Dickinson (2011) model based on the natural life cycle model, it is possible to predict the going concern of a firm activity or not.

Method: The methodology of this research is based on both experimental data and simulated data. In this regard, first, the firm natural life cycle and the dynamics of the firm natural life cycle were introduced. In the experimental methodology, first, the transfer matrix is obtained during different stages of the firm life cycle, and based on this, the transition probability between different stages of the firm life cycle is calculated. Calculating the transition probability between different stages of the life cycle makes it possible to examine the non-linearity of the firm life cycle. In the experimental methodology, in order to test the hypotheses, 141 firms were selected as a sample from the firms listed in Tehran Stock Exchange. To simulate and generate data, the Monte Carlo method was used, and MATLAB software was used to perform calculations. Finally, based on experimental data and simulated data, it was investigated whether the firm life cycle is non-linear and whether it is possible to predict the going concern of the firm based on the firm life cycle.

Findings: Based on Dickinson (2011) model and the firm natural life cycle model, using experimental data and simulated data, the results showed that the firm life cycle has a non-linear behavior. This non-linear behavior is true in all stages of the firm life cycle. The results also show that the degree of non-linearity is at a high level in all stages of the firm life cycle, and for this reason, it is not possible to predict the going concern of the firm.

Conclusion: Dickinson (2011) introduced a model in which the firm life cycle is determined based on the pattern of cash flows. In this model, commenting on the firm life cycle is not only certain, but it also fluctuates. This means that according to this model, the firm may be in different stages of the life cycle over time, which contradicts the natural definition of the life cycle. If we accept the firm natural life cycle, a firm never experiences the same stage more than once during its life, and as a result, fluctuations in this life cycle cannot be expected. In this research, the results of experimental findings showed that the firm life cycle has a non-linear behavior and because of the high degree of this non-linearity, it is not possible to predict the firm going concrn. In this research, based on the simulation, the results showed that the value of 〖"Pr[(P" 〗_i "+" "P" _(i+1) ")≈1]" for all stages of the life cycle is almost equal to 0 , which means that Dickinson (2011) model cannot explain the firm natural life cycle, which means that the firm life cycle is non-linear. In addition, the simulation results showed that at low thresholds, the probability of predicting the going concern is high, which is equivalent to the concept that at high thresholds, the probability of predicting the going concern will be very low. Therefore, in a summary statement, it can be said that Dickinson (2011) model not only shows that the firm life cycle is non-linear, but that the degree of non-linearity is high and it is not possible to predict the ging concern. The results of this research are very useful for accounting and financial literature. This benefit comes from both a theoretical and a practical point of view. From a theoretical point of view, the results of this research lead to the development of the literature related to the firm life cycle. From a practical point of view, it gives users of accounting and financial information the knowledge that according to Dickinso (2011) model, the firm life cycle is non-linear and care should be taken when making decisions on issues such as assessing the firm going concern.