If there is one piece of advice to hold above all others while running your business, it is this: cash is king.
It does not matter how much you are selling or how large your profit is; if your business does not have enough cash to pay staff and suppliers, it is in big trouble.
Even successful and profitable businesses can be affected by cash flow problems because, as they grow, more working capital is required.
Without proper cash flow planning, good businesses can suddenly find they do not have enough money to buy the resources needed to fulfil orders.
Running out of cash can have grave consequences for your business. Depending on whether your business is operated as a sole trader or a limited company, it may result in liquidation or your being declared bankrupt.
This does not have the social stigma it may once have had, but it is still a hugely disruptive event.
This guide is mainly written for limited company owners, but we also highlight what insolvency and bankruptcy mean for sole traders.
To help you better understand this complex area, here is ByteStart’s small business guide to insolvency, liquidation, and bankruptcy.
Insolvency
This is the catch-all title for running out of money. It means you do not have the cash or assets to meet your current liabilities, such as money owed to suppliers or other debts that are due.
A qualified liquidator, receiver or administrator must oversee insolvency proceedings. Only authorised insolvency practitioners can take up these roles.
Company liquidation
When a limited company becomes insolvent, it usually goes into liquidation. This is a process in which a liquidator winds up the business’s affairs and closes it.
A liquidator usually ensures that all contracts are completed, any legal disputes are settled, assets are sold, and any money owed to the company is collected.
At the end of the liquidation process, the company is struck from the Companies House register and dissolved.
Types of liquidation
There are two different types of voluntary liquidation: members’ voluntary liquidation and creditors’ voluntary liquidation.
1. Members’ voluntary liquidation
If your business can still pay its bills but you no longer want to run it and cannot sell it, you should consider a members’ voluntary liquidation. The directors must make a formal declaration that the company is solvent before starting this process.
2. Creditors’ voluntary liquidation
A creditors’ voluntary liquidation will be the route to take if you choose to liquidate your company because it cannot pay its debts.
As a company director, you and any other shareholders can voluntarily liquidate the company by passing a special resolution to stop trading.
Once passed, the resolution must be sent to Companies House within 15 days and advertised in the London Gazette within 14 days.
The resolution must be advertised in the Edinburgh Gazette if your company is registered in Scotland.
You must then appoint an authorised insolvency practitioner to act as a liquidator and take control of winding up the company.
Within 14 days, you must also arrange a meeting with creditors, at which you must present a “statement of affairs” using form 2.14B.
You can download a copy of form 2.14B from this page of the Gov.uk website.
There is also compulsory liquidation, in which the court orders the company to be wound up.
To start this process, a creditor will often issue your company with a statutory demand.
On receipt of a statutory demand, you usually have 21 days to pay the debt or agree on a payment plan with the creditor. If the debt is not settled and exceeds £750, the creditor may petition the court to wind up the company.
The conduct of directors will be reported to the Insolvency Service
The practitioner supervising the insolvency procedure must send a report on the conduct of company directors to the Insolvency Service. This report will cover the behaviour of all company officers in the period leading up to insolvency.
The Insolvency Service will then determine whether any of the company directors should be disqualified from being company directors. A disqualification can last for up to 15 years.
The most commonly reported examples of poor conduct by company directors are:
- Trading while the company was insolvent
- Not keeping proper accounting records
- Failing to file company accounts or company returns with Companies House
- Not paying tax owed to HMRC
Alternatives to company liquidation
If your company is in serious financial trouble, liquidation is not the only option. You could attempt to work with your suppliers to find an informal arrangement that allows your company to become solvent again.
This is in their best interests, as they are ultimately more likely to get their money if you keep trading in the long term.
Companies can also make a formal arrangement by applying to a court. You will need to appoint an authorised insolvency practitioner to do this.
The final option is to go into administration, a legal procedure that gives your company breathing space to take stock of the situation. You will work with an administrator to deal with creditors and consider future options.
Bankruptcy
As the director of a limited company, if it goes into liquidation, you will only lose what you put in (assuming you have not guaranteed any company loans with personal assets such as your house).
If you are a sole trader (self-employed) and become insolvent, you may personally go bankrupt. Anyone can do it, and it is a way to free yourself from debts and make a fresh start.
There are, of course, many downsides. Any assets you own will be shared among your creditors. That could mean losing your home. And while it is now much easier to get going again after bankruptcy, you will find it tough to get credit for a good few years.
Creditors’ petition
If you are an individual and owe one or more suppliers £5,000 or more in unsecured debts, they can petition to have you declared bankrupt. Several creditors can also join together so that the total they are owed reaches this threshold.
For limited companies, a creditor owed £750 or more can usually petition to wind the company up if the debt is not paid and there is no valid dispute.
If you are threatened with a winding up petition or a bankruptcy petition, you must seek urgent professional advice.
The process of declaring yourself bankrupt
Once you and your advisers are certain there are no other options, declaring yourself bankrupt now involves completing an online application rather than petitioning a county court.
You apply via the GOV.UK bankruptcy service, pay a fee, and an adjudicator at the Insolvency Service reviews your application. If they decide you meet the criteria for bankruptcy and no other solution is more appropriate, they will make a bankruptcy order.
On the date of the order, you will lose control of your assets, both business and personal, and the official receiver or trustee will decide which to sell to repay creditors.
If your business is still running, it will typically be shut down. Your bank account may be closed. For the next year, there will be heavy restrictions on what you can and cannot do. Typically, after about a year, you become a discharged bankrupt and can start to rebuild your financial life.
Alternatives to bankruptcy
There are many alternatives which you should discuss with a professional adviser. They include loan consolidation, debt management planning and the Individual Voluntary Arrangement.
An Individual Voluntary Arrangement (IVA) is a popular alternative to going bankrupt.
It is a formal agreement between you and your creditors in which you commit to paying off your debts over about 5 years. You will need help from an authorised insolvency practitioner to do this.