My debtor is (at risk of becoming) insolvent - Signals to watch out for
Published on 27th Oct 2020
Several international studies have shown that companies that drift into bankruptcy often follow the same pattern. Check for these signals regularly with your strategic partners.
The liquidity ratio is below 0.5
A standard reflex when doing business should be to check your partner's annual accounts. If the short term debts are not covered by the assets and earnings eligible for cash out, the situation has become fragile and other creditors might take action that can either lead to a negative spiral, or diminish your own recovery options.
Negative profitability for two consecutive years
A company that has not been profitable for two years in a row, and therefore suffers losses, is in difficult conditions. Profits are necessary to support and guarantee the further expansion or growth of the company. If the losses accumulate, it will be difficult to find financing and to make investments.
Total debt is higher than capital
This signal indicates a shortage of net working capital. If the debt ratio is higher than the capital, the entire working capital will not cover all debts. The companies' equity is therefore negative.
The own assets are less than 50% of the capital
The amount on the balance sheet item "own assets" shrinks when the company cannot transfer or insufficiently reserves its profits for the following financial year, especially if this happens several years in a row.. When the own assets represent less than 50% of the capital, it may be time to pay closer attention or to take measures.
There are taxes or social debts
Beware of debts with the tax administration or companies not honouring their social obligations. These authorities are often "aggressive creditors" and they will not hesitate to take executive measures in order to secure their claims. If such debts are not immediately reflected in the annual accounts, it can be prudent to check the Central Database of Seizure notifications ('Centraal Bestand van berichten van beslag') to see whether such measures have indeed been taken. This is also a useful tool to check whether other creditors have already seized assets. Always keep in mind: tax or other government authorities will not hesitate to take executive action or to file for the bankruptcy of a debtor, as they are usually not in need of liquidity themselves. While private creditors are often reluctant to file for the solvency proceedings of their debtor in order to protect their claim or business relationship, official authorities seldom have a personal interest. Moreover, they have specific resources at their disposal to take such action.
The annual accounts have not been published in over two years
In Belgium, the government strictly monitors that companies file their annual accounts. The non-filing of the annual accounts therefore points to an obfuscation of financial problems and can even be connected to director's liability. A company obliged to publish can be dissolved by law in Belgium if the company does not publish annual accounts for 36 months.
Your debtor's behaviour
Besides verifying the information mentioned above, a good indication to see whether trouble is ahead, is the overall attitude of the debtor. There is nothing wrong with a lenient approach to a debtor, possibly for commercial reasons, but a systemic backlog in payments or subsequent demands for payment delays should give rise to further investigation.
This is the second of three insights offering guidance on insolvent debtors. You can find the first article here and the final insight on the possibilities of securing your claim here. Depending on the situation at hand, a specific course of action can be outlined so that your risks are minimalised as much as possible. Our legal experts are happy to guide you through the respective steps in order to best protect your company against the insolvency of its debtors.