Distressed businesses update

Although business insolvencies in the UK have fluctuated dramatically in recent years across sectors and geographic regions, what is becoming increasingly evident is that the usual spike in company failures that follows a recession is just not happening this time around.

The pattern is not matching that of previous recessions and recoveries, leaving economists and business leaders keen to understand the reasons why.

The number of distressed businesses in Britain climbed predictably when the economy was in the full grip of the recession. As cutbacks continued to bite, the number of companies with the resources to hang on in such difficult operating conditions fell month by month. But now that the recovery has taken hold, rather than the spike in insolvencies that has followed recessions in the past, on a broad level, insolvencies and signs of distress are starting to level off.

Data from R3 has shown that signs of distress within UK businesses have reached their lowest point since March 2012. In fact, just 33 per cent of British businesses are showing signs of distress, according to the survey, which monitors for decreasing profits, sales volumes or market share, regular use of overdraft facilities and new redundancies. In March 2012, when R3 first began monitoring these areas of business distress, almost twice the percentage of companies (64 per cent) reported experiencing signs of distress.

R3's findings are backed up by the latest Red Flag Alert report from Begbies Traynor, which also showed a decline in the number of businesses in “critical financial distress” in the first quarter of 2014 when compared to the same three-month period in 2013.

Giles Frampton, vice president of R3, discussed the potential reasons for the unexpected decline in distressed businesses: “Historically, business failures increase as the economy bounces back: rapid economic growth can be a problem for a business that used up cash reserves in a recession or that isn’t prepared for expansion.

“However, low interest rates and the much slower recovery we have had up until the last nine months or so have brought struggling businesses time to sort out their problems.”

With the latest Bank of England report demonstrating an upward revision in the pace of the economic recovery, business conditions look set to continue to change for the better. The Red Flag Alert report confirmed the economic improvement, as Julie Palmer, partner with Begbies Traynor, noted: “The UK economy hasn't just turned a corner, but is getting firmly back on its feet.”

The broad improvement in economic conditions and drop in insolvencies has left buyers in a very different place than they were in last year and forced many to narrow down their hunt distressed businesses for sale considerably. While opportunities are still cropping up, they are only doing so in specific regions and sectors of the economy, making a targeted search crucial.

Consumer-facing sectors appear to be showing the most signs of distress at the moment, with the Red Flag Alert report showing that 86 per cent of food retail businesses experienced an increase in their levels of business distress between the fourth quarter of 2013 and the first quarter of 2014. Other consumer businesses were also shown to be struggling, although to a lesser extent, with 16 per cent of media businesses reporting an increase in levels of distress, along with 23 per cent of hotels and seven per cent of bars and restaurants surveyed.

Construction also remains vulnerable, with over half of insolvency practitioners saying that this sector is the most prone to collapse as a result of late payment problems, according to a ComRes survey of R3 members. The high knock-on effect in this industry exacerbates the problem – if a major contractor goes down, this can directly lead to the demise of many smaller operators.

Meanwhile, an increase in distressed opportunities is on the horizon for buyers looking north of the border. Businesses in Scotland are going against the broader trend and appear to be conforming to economists' predictions, with a spike in insolvencies recorded by official figures. According to data published by the Accountant in Bankruptcy, Scottish corporate insolvencies in the latest full quarter were up by 70.6 per cent in comparison to the same period last year. The year-on-year increase from 142 in the quarter to March 31 2013 to 244 in the same period this year, outstrips seasonal fluctuations and is thought to be a sign of economic recovery as improving conditions make it easier for banks to realise value from distressed companies' assets.

From the current perspective, it looks like the coming quarter will be a crucial time for distressed businesses in determining their survival or downfall. However, the signs are that where there is a will, there is a way, with more businesses surviving cash flow droughts, particularly in the stronger industry sectors.

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