Shaun Barton: Recognising the warning signs of company insolvency

Shaun Barton: Recognising the warning signs of company insolvency

Shaun Barton

Shaun Barton, partner at Company Closure, highlights the warning signs of a company insolvency.

When it comes to the impending, or actual, insolvency of a limited company, taking swift action is critical. Seeking the services of a business turnaround expert such as a licensed insolvency practitioner at an early stage could mean the difference between a company being able to be rescued, or one which has no option but to close down for good.
However, in order to ensure action is taken in a timely manner, company directors firstly need to be aware of what insolvency is, and secondly to be aware of the warning signs which often signal a slide into insolvency.

What is company insolvency?

Company insolvency can be defined in one of two ways. The first is when a company is unable to meet its liabilities as and when they fall due; this could be payments to suppliers, staff wages, obligations to HMRC, or general overheads such as utility bill and rent. A company in this position is known as cash flow insolvent.
The second definition of company insolvency is when a company’s liabilities outweigh its assets. This often occurs when a company is highly leveraged; although it may own some significant assets, if these have onerous finance agreements attached to them, the company is at risk of becoming balance sheet insolvent.

What are the warning signs of company insolvency?

Although insolvency can be manifested in a number of different ways, depending on the company and the severity of its financial problems, there are some key warning signs which the majority of companies will display when they are threatened with impending insolvency. These include:

  • Squeezed cash flow
  • Decreasing profits and increasing costs
  • Sustained pressure from creditors
  • Falling behind in tax payments to HMRC
  • Inability to obtain further credit
  • Threats of legal action such as a Statutory Demand or a Winding Up Petition

What happens when a company is insolvent?

If you recognise any of the warning signs above and believe your company may be at risk of becoming – or maybe you believe it already is – insolvent, the good news is that there are options open to you to help turn the situation around. Just because a company is insolvent does not mean that it is beyond rescue. On the contrary, there are a number of formal insolvency solutions which can be implemented to effect a successful turnaround of the business and its fortunes.

These could include placing the company into administration; this would place a moratorium around the company. This moratorium acts as a legal ringfence which prevents any creditors from starting or continuing legal proceedings against the company. This gives the appointed insolvency practitioner the time and breathing space needed to restructure and/or refinance the company free from the pressure of litigation. Administration may result in viable elements of the business being saved, or a sale of the company’s assets to a connected or unconnected third party.

Alternatively, a Company Voluntary Arrangement (CVA) could be proposed to creditors which would allow for current debt liabilities to be renegotiated and restructured to ease the strain on the insolvent company’s cash flow. In order to be eligible for a CVA, the company in question must be deemed to be ultimately viable; that is why time is very much of the essence when insolvency is threatened.

The sooner action is taken, the more options will be available and the greater the chance of achieving a successful rescue will be. Company debt problems are no different to personal debt problems in that if they are left alone, they are only likely to get worse. Being aware of the warning signs of company insolvency allows for intervention before the situation has a chance to spiral out of control.

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