Trading whilst in an insolvent position is an extremely risky situation for Directors. If the directors of a business continue to trade when they know that the company is unable to pay its debts they could be exposed to personal liabilities (and possible prosecution) and lose the usual protection offered by the limited liability status of the company.
For this reason company directors need to keep a careful eye out for the early signs of the company drifting towards insolvency. These may include:
When the company’s annual accounts are prepared (or interim management accounts) the directors should take careful note of the balance sheet to ensure that there are no negative reserves due to the company’s assets exceeding its liabilities. This often arises when losses have been made, or funds in excess of profits have been extracted.
Negative Net Current Assets
Whilst the company may have positive assets overall, it is the company’s ability to pay debts as they fall due that is the real issue. A company’s ability to meet short-term liabilities depends upon liquid assets (cash or assets that can be quickly converted to cash) available. Looking at the Net Current Assets figure in the balance sheet you can provide a good indication of this. Where Current Liabilities exceed Current Assets then this will warn of probable cash flow problems and the risk of subsequent insolvency.
Over dependence on one large Customer
This is always a dangerous situation to be in. Effectively your company is dependent upon the fortunes of your principle customer. If they are in difficulty then so are you. An extremely large bad debt, or simply a delay in them paying you, may cause your company to fail. Diversify your client base as best you can, and ensure you keep a tight control over your debtors so that they do not build up large debts that you cannot afford to go ‘bad’.
Of all your creditors HMRC is often the last to be paid as they are not considered to be critical to the continuation of your business in the way that key suppliers and employees do. However, HMRC is often the most likely to take action to put your company into liquidation. As such, not paying HMRC is simply not a good idea.
Aggressive Bank Action
In the past banks competed for the opportunity to lend you money. Today it is a very different situation. If your company is struggling, rather than holding out a helping hand they are often quick to try to withdraw their lending facility. Overdrafts are repayable on demand and you may find that their action to reduce the facility may be sufficient to tip you over the edge into an insolvent position.
Unexpected or Unusual Events
The receipt of a winding up order from a creditor, a demand for repayment of a loan, or the consequences of a County Court judgement going against you may be an indicator of you heading for trouble.
If you feel that you are having difficulty then you need to speak to your accountant about this. Accountants are best placed to give you initial advice and should be your first port of call, although ultimately you may need to be referred on to an authorised Insolvency Practitioner. If you are concerned about the risk of your business becoming insolvent and are not getting the help and support that you think you need from your accountant, please do not hesitate to contact us at DEB Chartered Accountants.