Insolvencies rise despite healthy economy

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August is not normally a month for much serious focus on the economy.  With many business correspondents away on holiday, the news is normally focused on airport delays and the weather, too good or horribly bad.  Not this time round, after the long-awaited announcement from the Bank of England of a cut in its base rate from 5.25% to 5%.

This was followed by the publication of some solid GDP growth numbers, with Q2 24 output up 0.6% after an 0.7% increase in Q1.  The Bank even went so far as to raise its forecast for the calendar year to growth of 1.25%.  Despite this, the Insolvency Service confirmed that July saw yet another significant rise in business failures to a new record high.

Puzzled by why more businesses are heading over the financial cliff just as the economy is picking up, we asked Nick Hood, Senior Business Adviser at the Opus Business Advisory Group to explain this conundrum.

“There has been some variability between individual monthly insolvency figures, but July 2024 saw a 14% increase over the same month in 2023 and a striking 47% hike from pre-pandemic levels in July 2019.  The more reliable measure of business distress comes from the rolling 12-month data.  There was a new record for a calendar year in 2023 when there were 26,776 company insolvency filings, but July 2024 has now set a new peak of 27,138.”

“With six months of good if not exactly robust growth since the start of the year and the fall in interest rates, which had already been ‘baked into’ thinking about the economy for some time, the expectation might be that business confidence will have been boosted, prompting some vulnerable firms to battle on through to better times ahead.”

“Unfortunately, while business growth is all about confidence, business failure is generally the result of a specific financial problem or an accumulation of them.  Where confidence can come into the mix, or rather the lack of it, is how lenders and other credit providers feel about a particular risk on their books.  Anecdotal experience suggests that more and more companies are struggling to raise additional finance when they need it, which suggests a financing market that is still very much risk averse.”

“It’s also the case that those terminal financial problems develop over time, with the root causes starting months and sometimes years before the business finally fails.  It could be an ill-advised capital investment project, but more often it will be factors such as falling profit margins, excess competition, declining market share, a major bad debt, a cancelled contract, or a lack of financial reserves and resources that tips the balance.”

“Expanding too fast is a common killer.  But the king of corporate collapse is the good old-fashioned cash flow crisis when then the payroll can’t be met, the rent goes unpaid, HMRC can’t be staved off any longer, or suppliers withdraw credit.”

“None of these issues are particularly sensitive to the state of the economy in general and sadly, they are sometimes down to poor judgment or just plain bad or inexperienced management.”

“A final adverse factor still playing out is the knock-on effect of the pandemic, which left many company balance sheets severely damaged or else over-burdened with extra debt taken on under the various government Coronavirus loan schemes.  The ‘no questions asked’ Bounce Back loan was a worthy concept, except for any borrower that found bouncing back to be akin to ‘Mission Impossible’ after lockdowns, the working from home phenomenon and endemic labour shortages wrecked their business models.”

“The reality is that for all these many reasons, a sustained and meaningful drop in company insolvencies has been a lagging indicator in periods of growth and recovery for many decades – and 2024 and 2025 will be no different.  Even if the current growth trend can be sustained in the face of badly-strained public finances and the painful decisions taken to remedy them.”