Poor cash management, overspending or taking out too much debt can all land businesses in financial difficulty, but there are many other factors that can result in insolvency.
Even if it seems your business is doing well, it’s important to know what the biggest risks are as things can quite quickly change.
1. Cash flow
Bad financial management and having a consistent lack of cash can be one of the biggest causes of insolvency.
Not having enough money in the bank to cover monthly expenses such as payroll and rent as well as any unexpected costs, can eventually land a business in hot water. Sales can fluctuate from month to month, and failing to have a substantial buffer to cover you during a particularly quiet period can lead to a business’s demise.
2. Lack of reliable financial information
Without an in-depth understanding of the financial movements of your business, it’s impossible to know how well it is doing. This is when problems creep in. Having good business and cash flow forecasts in place is crucial if you want to avoid insolvency. This will mean you have a solid understanding of where the business is heading in the future and therefore better equipped for any potential costs that come with growth and expansion.
3. Failing to separate business and personal accounts
Another common error that can lead to insolvency is failing to keep business and personal finances separate
Entrepreneurs that blur the lines between the two run the risk of either draining too much money from the business for personal use, or using personal finances to make up the business’s shortfall when cash is running low.
4. Too much debt
Keeping on top of debt repayments is crucial to a business’s success and taking out too much debt is one of the biggest causes of insolvency. While most businesses at some point rely on taking out credit, over-borrowing can place your business in a vulnerable position.
Assuming your business will make the necessary revenue in the future is risky and borrowing money without any accurate insight into whether you will be able to pay it back may well be detrimental to your business.
5. Lack of budgeting
Failing to make a profit over a substantial period of time can also lead to business insolvency, and a lack of budgeting can further add to this.
Business owners that are struggling to make ends meet but fail to reduce overheads such as rent, bills, wages are likely to be steering their business further into financial difficulty. Failing to postpone luxuries and reduce excessive salaries can also have a part to play.
6. Demands for payment or defaulting
While the odd forgotten bill isn’t the end of the world, frequently missing payments due to lack of funds or bad financial management can land you on the path to insolvency.
Negotiations may be able to be made with some creditors in the early stages, defaults on HMRC bills or other formal arrangements can be extremely damaging.
Ignoring legal action threats can cause a headache, too. Ignoring Statutory Demands can lead your business to the end of the road, as these are often your first warning that creditors are serious about recouping the money you owe.
7. Failing to have a debt recovery procedure in place
Businesses that don’t have a strong debt recovery strategy in place run the risk of insolvency, as failing to recoup money owed can seriously disturb the cash flow balance.
By requesting deposits from new clients, sending invoice payment reminders or imposing late fees can help you ensure you are being paid for services or goods provided.
Ignoring your competitors and keeping an eye on what they are doing better or differently to you could eventually lead to your business losing out on its market share. Failing to prepare for changes in the market and having an understanding of what competitors are offering could result in your own client base seizing up, which in turn might result in a severe lack of sales and profit.
9. Over reliance on one key client or customer
Over reliance on one or two key clients or customers can also result in insolvency if they decide to stop using your services or move to a competitor, especially if your business relies on a large percentage of its profit from them.
Insolvency may also be a risk if one of your most valued clients enters into financial difficulties themselves and are therefore unable to pay you for the service they have received.
your head in the sand
Business owners that bury their heads in the sand only further increase their chances of insolvency. Facing any financial hardship head on may open up your options and help you steady the ship before it’s too late
Is your business at risk of becoming insolvent?
If your business is facing some financial difficulties, it’s important not to make the situation any worse by continuing to over-budget or by applying for more credit.
Taking steps to prevent insolvency will help ensure your business has a future, but if you find you have no alternative, seek the help of an insolvency practitioner who can advise you along the way.