Insolvency report: There may be trouble ahead

With many small businesses now firefighting on several fronts, insolvency experts are warning of a rising number of company failures on the horizon.

Added to that, temporary restrictions on the winding up of companies, introduced during the Covid-19 pandemic to protect businesses affected by lockdowns, were lifted at the beginning of April.

That move sparked more grim predictions of an approaching spike in business insolvencies.

Nicola Clark, North West restructuring and insolvency partner at accountants Azets, sees trouble ahead. She says: “SME businesses are facing several long-term challenges as a result of Brexit, the Covid-19 pandemic and the ongoing conflict in Europe.

“With margins eroded by rising costs and a loss of pricing power, the current economic climate will result in a severe shortage of working capital and a growing number of business failures as companies become overstretched due to a lack of cash.”

Against that backdrop, Chris Lawton, a director at corporate rescue and recovery specialist Begbies Traynor’s Preston office, stresses it is the “legal duty” of company directors to keep the business in robust financial shape.

And that means keeping a sharp eye out for potential disruption that could threaten its viability.

Chris adds: “If you continue trading knowing that your business is insolvent and cannot be rescued, you could be found guilty of wrongful trading.

“If wrongful trading occurs, you could be held personally liable for the debts of the company. If you believe that your business is insolvent, seek immediate professional advice to minimise risk to company stakeholders and yourself.

“You must be prudent when operating a company in financial distress, as this could worsen the financial position of creditors and lead to the demise of your business.”

He adds: “If you believe that your business is insolvent, seek immediate professional advice to minimise risk to company stakeholders and yourself.”

Ian McCulloch, partner at Opus Restructuring and Insolvency, says now all restrictions on creditor enforcement have ended – apart from some limited rent arrears - it is “open season on unpaid bills”.

He adds: “Struggling directors will be considering the warning signs to look out for if their business is in difficulty.

“In basic terms it comes down to some very simple questions: can you pay your staff, your suppliers, HMRC and the landlord on time and keep the bank off your back over your overdraft or Bounce Back Loan?

“If the answer to any of these is ‘no’, there’s a problem. If you can’t pay any of them, the game is over.”

He adds: “If the only way you can pay some creditors is to defer others, beware. If the company subsequently goes into liquidation, you may have committed an offence by preferring those creditors.

“In particular, directors must not repay themselves loans they made to their company, nor reduce other debts like rent that they have personally guaranteed.”

Ian also warns of the dangers of wrongful trading, which could make the directors liable to pay back the increased losses personally. He says: “It is also vital not to continue trading past the point of no return where the liquidation of the company is unavoidable.”

He adds: “The key for directors where the company is battling for survival is keeping a clear written record of why they have taken the decision to pay some creditors but not all, or to keep on trading, as well as all the supporting evidence.

“Equally vital is taking expert professional advice as soon as the problems become clear and following it. The earlier advice is sought the more options are available.”

Nicola Clark says working capital is a key indicator of the health of an enterprise. She adds: “The economy is reaching the point where a shortage of working capital becomes common.

“Business owners naturally want to pursue opportunities but if cash coming into the business gets out of sync with cash leaving it, the company will be unable to meet its obligations. For these business owners, knowing when to act is crucial.

“Company directors must meet certain legal obligations, including a fiduciary duty ‘to act in a manner that is most likely to promote the success of the company’.

“Therefore, if problems are identified which could potentially lead to the closure of a business, owners must take immediate action to change the direction of travel or seek appropriate advice.”

She adds: “In addition to statutory responsibilities, directors have a responsibility to act in the interests of the company’s creditors, especially when insolvency is a possibility. It is their duty within law to do everything they can to make sure creditors get paid.

“We advise clients in this kind of position to break their business down into the relevant elements. If you are being put under pricing pressure, is there anything you can do to differentiate yourself from your competitors and provide value added services to continue charging at the same level or above?

“It might be that the business is completely market driven and unable to increase income, in which case there might be savings to be made in the cost base, despite costs still increasing.

“Typically, in a services business, the biggest cost is people. Here, businesses could look to operate with fewer people delivering the same services or delivering services in a different way – for example, using technology, remote working, or potentially saving premises costs.”

Nicola says decisions should be based on real time and accurate financial information and advises a 13-week rolling cash flow forecast tracking receipts, payments and pending costs as a pre-requisite, “otherwise the business is flying blind”.

A forensic review of all processes that turn orders into cash will identify inefficiencies in cash retention and cash flow.

Other measures include reviewing the business’ inventory strategy, matching stock to orders and considering a ‘Just in time’ policy.

Nicola adds: “A communications plan should be prepared for each stakeholder group impacted by cash flow problems, from customers and investors to staff and suppliers.

“Economic recovery is understandably hailed as a welcome respite from economic problems, but it always brings challenges for businesses, most notably working capital and cash flow.

“Business owners should already be reviewing business plans and forecasts on a regular basis in order to take a long-term view of their position and continually improve.

“Despite the funding and equity options available to businesses, cash remains king. Cash is essential to repay debt and finance growth, but a shortage can precipitate failure and is often a problem that can be managed with early intervention.

“However, if it still doesn’t look great even after appropriately forecasting plans, owners must seek immediate advice.”