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Guest Article | Insolvency: Spot the Warning Signs
Last updated: 08 Jan 2024 09:30
Posted in: AIA
Jonathan Munnery examines the role of the accountant in corporate insolvency and restructuring proceedings.
It is an unfortunate fact of business that many companies will experience some form of financial distress at some point in their lifecycle. For some, this will be a temporary tightening of cash flow which is swiftly resolved; for others, however, the problems will become so severe that professional intervention is required to deal with a company which has found itself technically insolvent.
While insolvency poses a real threat to the ongoing viability of a company, this does not necessarily mean that the business is beyond rescue at this stage. There are a variety of corporate restructuring and turnaround processes which can be implemented to reverse an ailing company’s fortunes.
If the company’s problems have indeed taken it beyond the point of rescue, opting for a formal insolvency procedure to bring the company to a close can ensure that this is achieved in an orderly and compliant manner.
Accountants and insolvency practitioners
When insolvency threatens, a collaborative effort is needed in order to maximise the chances of effecting a successful turnaround. Although formal insolvency proceedings can only be entered into under the guidance of a licensed insolvency practitioner, the company’s accountant often plays a pivotal role before, during and after the process.
Rather than operating in competing roles, the insolvency practitioner and the accountant work in tandem to ensure the best possible outcome for the client, whether that results in the rescue of the insolvent business or its ultimate closure.
The initial stages of insolvency proceedings
When it comes to rescuing a distressed business, it is often what happens at the earliest stages of insolvency that proves to be a decisive factor in whether the business can be saved. The accountant is often there right at the start of the process, long before an insolvency practitioner is even appointed.
In some instances, the accountant could well be the most informed individual regarding the financial and operational performance of the company, even more so than the company’s directors. They will often be the position to identify the company’s insolvent position and alert its directors to the fact that the company is in a perilous financial position. In other cases, directors who are on top of their company’s financial performance are likely to go to their accountant as trusted financial professionals when looking for advice and guidance as to what to do next. As an accountant, being aware of the early warning signs of potential insolvency can make all the difference when it comes to a client’s company being able to trade out of its current problems, albeit after a process of operational and/or financial restructuring, or one which succumbs to its challenges. Company insolvency is often a gradual process, so being alert to the early warning signs of impending insolvency means that action can be taken to remedy the situation before it escalates to a terminal point. Below are some key signs accountants and business owners should be alert to:
A reduction in business activities: This could take the form of lucrative contracts coming to an end, a reduction in turnover and a general decrease in demand for the product or service. It may also involve suppliers withdrawing supply or changing the terms of supply.
Financial difficulties: This can involve an inability to obtain third party funding, the inability to pay overheads as and when they fall due, and increasing creditor pressure. In more extreme cases, there may also be final demands and threats of enforcement action.
Accounting problems: The business may be submitting accounts late and falling behind in tax obligations. It may also be defensive about providing financial information about their company when asked.
What is an insolvency practitioner?
An insolvency practitioner is a professional licensed to help companies and individuals in financial difficulty. Licensed insolvency practitioners sometimes have a legal or financial background, and might work within an insolvency department for a company in these industries. Alternatively, an insolvency practitioner could work for a specialist insolvency firm. It’s important to seek assistance from ‘licensed’ insolvency practitioners, as they are regulated by an official body or association and have undergone extensive training.
Seeking the professional advice of an insolvency practitioner can help to prevent a further slide towards liquidation. With the UK’s supportive insolvency regime there may be a variety of options open to businesses in financial distress, and an insolvency practitioner’s principle objective is rescue and long-term recovery.
Company directors have to take great care when their business is experiencing financial difficulty. Insolvency laws in the UK dictate that trading must stop as soon as the business becomes insolvent or when directors believe that insolvency is inevitable. Seeking help from a licensed insolvency practitioner in this situation is obligatory – failing to cease trade could be viewed as director misconduct, and there’s a danger that creditors could suffer further financial losses as a result.
A licensed insolvency practitioner must be appointed to administer formal insolvency processes in the UK, including company administration, Company Voluntary Arrangements and company liquidation. An insolvency practitioner realises business assets and distributes the proceeds of sale to creditors, but they’re also obliged to investigate the conduct of directors leading up to insolvency.
As well as assisting limited companies, a licensed insolvency practitioner helps individuals and sole trader businesses in a similar way, offering advice and practical support in relation to bankruptcy or debt remedy measures such as Individual Voluntary Arrangements and Debt Relief Orders.
Insolvency practitioners are also appointed to close down solvent companies if a director wishes to choose to enter a solvent liquidation process called Members’ Voluntary Liquidation. Again, this is an official procedure even though the company is solvent, so a licensed insolvency practitioner oversees the process and ensures the company closes down according to statutory regulations.
The advice and referral stage
Many accountants, particularly those with a specialism in insolvency, will be in a position to undertake preliminary discussions with their client, giving a general overview of the potential rescue and closure options which may be available depending on the situation they have found themselves in. Once it is determined that entering into formal insolvency proceedings is the only viable route forward, the accountant will then work to refer their client to an insolvency practitioner for further guidance.
The accountant can be involved in these initial fact-finding meetings with the insolvency practitioner, acting as a support to both client and insolvency practitioner alike. Depending on the company’s financial and operational position, together with the future desires of the directors, a range of insolvency options can be considered.
Corporate restructuring is not a one size fits all offering. Each company which has found itself insolvent will be experiencing this distress in a number of different ways, often caused by a number of different issues both internal and external to the business. Due to this, a successful restructuring plan needs to be tailored to the individual company, taking into account both the challenges it is facing and also the potential opportunities on the horizon.
Restructuring often takes a two-pronged attack, which looks at restructuring both operations and finances. Non-performing parts of the business will be identified with the aim of directing funds, energy and resources at the more profitable areas.
Companies typically continue to trade during a formal restructuring proceeding, although this may not always be possible, particularly if staff are being made redundant as part of this process. During restructuring, the appointed insolvency practitioner may or may not assume control of the company during this period. If control is taken away from the directors, this will be handed back when the company is back on a solid financial footing.
While liquidation is not always desirable, in some cases it is the best outcome for all concerned. When all options for restructuring have been exhausted, or if the directors do not have the desire to save the company, liquidation can ensure that the business is brought to an end in an orderly and formal manner.
As part of the liquidation process, the insolvency practitioner will assume control of the company and will begin the process of identifying company assets, liquidating these for the benefit of creditors, and ensuring that the company’s liabilities are repaid as far as possible from the proceeds.
Liquidation can ensure the best outcome for creditors by shielding them from further losses which may occur if the company continues to trade and its financial position declines even further as a result. Likewise, liquidation can signal the end of a particularly stressful and fraught time for the company’s directors and shareholders, who are likely to have been battling the consequences of approaching and actual insolvency for some time.
In some instances of corporate insolvency, a full restructure of the business is not required. Simply refinancing existing liabilities or entering into informal negotiations with creditors to reconfigure current payment terms is all that is needed to reverse the company’s fortunes.
While directors can embark on these discussions with creditors themselves, it is sometimes beneficial to have a professional on board handling these negotiations on their behalf. A collaborative effort between the accountant and an insolvency practitioner can ensure that these talks are strengthened by accurate financial figures and a robust explanation of why restructuring existing liabilities will be beneficial to all parties.
Accountants and insolvency practitioners: working together
In order to determine whether embarking on a restructuring and turnaround plan is going to be feasible, the precise financial position of the company will need to be determined. This crucial part of the process is something the accountant is often heavily involved with.
Preparing a Statement of Affairs is one of the first things to be done when a company is contemplating formal insolvency proceedings as it provides an accurate snapshot of the company’s assets, liabilities and ability to continue to trade.
The insolvent company’s accountant will also liaise with the insolvency practitioner when it comes to obtaining books, records and the prior accounts of the company. All of these are vital to paint a comprehensive picture of the company’s current financial position but also help to inform future operational and financial performance.
The role of the accountant during and after insolvency proceedings
While the formal insolvency proceedings will be handled by the insolvency practitioner and their team, this does not mean that the accountant should fully step away. It is in an accountant’s interest to maintain a relationship with the client during this time. They should act as a support to both the insolvency practitioner and to the insolvent company’s directors and shareholders. They should also be able to offer support when it comes to client retention purposes.
Even when liquidation beckons, many directors will have the intention to restart in business, albeit under a newly formed company. By maintaining a professional relationship during insolvency proceedings, the client is more likely to seek the services of their trusted accountant when the time comes to incorporate their new venture.
Be prepared for insolvent clients
As we enter an uncertain economic landscape, the threat of insolvency is likely to become greater, meaning that accountants should ensure they are well equipped for dealing with clients with distressed businesses.
This may involve refreshing knowledge on corporate insolvency options and being alert to the warning signs of impending insolvency. They may also wish to have a connection with a trusted insolvency practitioner that they can turn to for advice during the early stages of client insolvency and outsource this work to if required.
Remember, insolvency does not necessarily mean the end for a business. With swift action and the right advice, many companies can bring themselves back from the brink and go on to have a successful and profitable future. Having a trusted accountant and a qualified insolvency practitioner on board at an early stage will give a distressed company the very best chance of achieving a successful outcome for all concerned.
Jonathan Munnery is an insolvency and company restructuring expert at UK Liquidators, a leading provider of company liquidation services.
"Insolvency does not necessarily mean the end for a business. Having a trusted accountant and a qualified insolvency practitioner on board at an early stage will give a distressed company the very best chance of achieving a successful outcome for all concerned."
Jonathan Munnery, Insolvency and Restructuring Expert at UK Liquidators