A1-02Facing the fact that your business is insolvent is not easy. One however has to identify the warning signs in order to stand a chance to save the company, or to ensure a controlled wind-down.

Insolvency occurs when a business can no longer meet its financial obligations. The new Companies Act 71 of 2008 makes provision for factual insolvency as well as financial insolvency.

Factual insolvency is the factual situation where a business has more liabilities than assets. It is important to properly value the assets and realistically include all liabilities when this evaluation is done.

Financial insolvency on the other hand is the factual situation where a business is not able to pay its debts. The cash flow of the business is of course the main factor to consider. Having to often ask your suppliers to vary their terms of business to give you extra time to pay, is a clear sign of trouble and possible financial insolvency. Another giveaway is when VAT and other taxes have to be paid late after waiting for funds to come into the business. Such late payments of course also lead to severe financial penalties from the revenue authority.

A deteriorating relationship with your bank or other finance provider, specifically due to late payments or requests for extension, also triggers the risk of financial insolvency. All service providers will follow suit once one of the financial service providers will not do further business with the company.

If creditors are pressing the company for payment and suppliers have rescinded credit terms and have started with formal legal demands – then it is almost certain that the business is insolvent. Once judgements are taken against the company and the company is not able to comply, the finances of the business will come under scrutiny and may even be taken out of the hands of the executive and management of the company.

A company which makes consistent losses should consider its position. Not every company will make profits every year, but consistent losses year on year show that there is a good chance that the company may not have a future. It may be that restructuring should take place to make the company and its business profitable, but it may be that the company is insolvent and cannot be turned around.

The directors of the company are obliged by law to take urgent steps as soon as it is clear that the company is under financial distress or even insolvent. Liquidation is not the only option. The directors will have to decide if they should proceed with the insolvency process, alternatively if they should apply for business rescue. The directors do however have to act in order to avoid personal liability towards the company and even third parties.

The company should consult with an expert in insolvency as soon as it is clear that there is a real risk of insolvency in the business.

This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)

At which stage do I have to accept that my company is insolvent?