Nearly Half of 2023’s Biggest Bankruptcies Lacked Key Warnings

Both management and auditors at nearly half of the 20 largest public companies that filed for bankruptcy in 2023 failed to wave key financial reporting red flags beforehand.

Retailer Party City Co., drug chain Rite Aid Corp., cargo hauler Yellow Corp., and online teeth alignment company SmileDirectClub Inc. are among the largest companies whose financial statements before bankruptcy disclosed financial woes but never specifically spelled out substantial doubts about their ability to survive another year, known in accounting lingo as “continuing as a going concern,” according to a Bloomberg Tax analysis.

The omissions contrast with the majority of US corporate bankruptcies, in which 70% of auditors and management flagged doubts about their ability to stay afloat.

The lack of warnings come as the US audit regulator considers updating its requirements for auditors’ annual assessment of their clients’ viability. The lapses show how complicated the going concern judgment is and how fraught the behind-the-scenes discussions can be. The companies did not respond to requests for comment.

These warnings often are seen as a death knell; no one—not the auditor, not management itself—is eager to make the call and potentially doom a business that has a chance of turning around.

“Sometimes when you issue that going concern, it can be a self-fulfilling prophesy,” said Preeti Choudhary, accounting professor at the University of Arizona’s Eller College of Management.

Seeing an auditor or management cast doubts can make lenders tighten credit or put workers on edge. Customers also think twice about buying big-ticket items in case a manufacturer doesn’t survive long enough to honor warranties, said Jonathan Nus, managing director at advisory firm Alvarez & Marsal.

“Anytime there’s that headline risk, there’s this threat of a slippery slope,” Nus said. “You could see how all those issues manifest themselves.”

Dual Requirements

Both the US accounting standard-setter and the US audit watchdog require regular assessments of a company’s ability to stay afloat, as a way of giving the market early distress signals.

The Public Company Accounting Oversight Board requires external auditors once a year to assess whether it’s probable a company can continue as a going concern over the next 12 months. When an auditor has substantial doubt, the firm must include a special note in the company’s financial statement. Headlines often ensue.

But these assessments only come once a year. After years of complaints that auditor warnings came well after the market knows a company’s in trouble, the Financial Accounting Standards Board in 2014 established new rules for businesses themselves. Every quarter, public companies’ top management must assess if there are doubts about the odds of staying in business. If there are problems, then companies must disclose them and share plans to fix them.

Most companies that filed for bankruptcy last year indicated trouble was brewing, both through auditor warnings and disclosures from companies themselves, according to a Bloomberg Tax analysis of securities filings and information from research firm BankruptcyData.

But the system isn’t perfect, in large part because of the judgment involved, Choudhary said.

“I wouldn’t expect there to be a full one-to-one—that every bankruptcy has been flagged by a going concern,” she said. “That’s probably not reasonable to expect. But at the same time, is there a way to give earlier warnings?”

The US audit regulator is trying to figure that out. The PCAOB expects to issue a proposal later this year that would refresh its going concern requirements as part of the board’s ambitious agenda to modernize the US audit rulebook. The effort attempts to overhaul many requirements that pre-date the regulator’s 2002 formation in response to accounting scandals that sank Enron Corp. and WorldCom Inc.

Updating the PCAOB’s going concerns rules have long been a priority for investors, who successfully lobbied to remove a previous board chair after the project, among others, was dropped from the board’s agenda.

Ernst & Young LLP, which audited Party City and SmileDirectClub, did not respond to requests for comment.

Hints of Trouble

In the absence of explicit going concern disclosures, some of the companies that filed for bankruptcy in 2023 beefed up risk disclosures and sharpened language to convey how shaky their future could be without explicitly saying they might go out of business within a year.

Yellow Corp. in a financial statement issued one month before filing for bankruptcy noted it needed “substantial additional liquidity” to meet its debt obligations, but did not cite a going concern risk.

Rite Aid management told the market the company was “highly leveraged” and needed to restructure to shore up its liquidity, but warned it couldn’t guarantee it would be successful in a quarterly filing published in July. The first time the company mentioned doubts about continuing as a going concern was in the financial statement it issued three days after filing for bankruptcy.

At retailer Tuesday Morning Corp., disclosures also reveal insight into tricky conversations. The company’s auditor, Grant Thornton LLP listed the question about whether the company could continue as a going concern as a critical audit matter, one of the thorniest areas it had to vet, according to the company’s 10-K. In November 2022, the company itself disclosed that it assessed whether it needed to wave a going concern flag, but concluded that new funding would keep operations going for the next 12 months. It filed for bankruptcy five months later.

Bed Bath & Beyond Inc.'s financial statements also offered clues about fraught discussions. The company’s year-end 2021 10-K—published almost a full year before it filed for bankruptcy protection in April 2023—contained no direct going concern warning from its auditor. In a quarterly report published in September 2022, executives revealed that they discussed whether to issue a going concern warning but determined the company would survive. By January 2023, three months before filing for bankruptcy, management waved the red flag in a filing saying the company would miss the deadline to file its quarterly report and there were substantial doubts about the ability to continue as a going concern.

In at least one of 2023’s high-profile bankruptcies, however, there was neither an explicit going concern warning nor strong hints at problems. The financial statements of Silicon Valley Bank, whose March 2023 collapse triggered a regional banking crisis, contained no mention of a risk to remain a going concern.

KPMG LLP, which audited Yellow Corp., Silicon Valley Bank, and Bed Bath & Beyond Inc., declined to comment.

Drama over the going concern warning played out between Party City and its long-time auditor EY in June when the firm quit auditing the party supply chain after saying it disagreed with how and when the company should have warned the market about a potential going concern alert. The company issued its third-quarter 10-Q in November 2022 without a going concern warning and filed for bankruptcy protection two months later.

The company has since re-issued that third-quarter 2022 10-Q to to state it should have filed a going concern warning at the time. But unlike some of the other companies that closed up shop in 2023, Party City was able to emerge from bankruptcy in the fall of 2023, handing ownership of the company to lenders and shrinking its debt load by about $1 billion. The company in its most recent 10-K filing disclosed there no longer were doubts about its ability to stay in business.

“It’s hard to point fingers because the dynamics of the industry in which companies operate or the dynamics of the business is getting disrupted is quite accelerated these days,” Nus said. “What looked reasonable yesterday may be very different tomorrow.”

—With assistance from Amanda Iacone.