Why Do Businesses Go Bankrupt?
Businesses are essential for economic growth. Companies produce the goods and services which drive the market and keep people employed. Yet businesses, just like individuals, can be put in difficult positions that lead to bankruptcy. In this article, we will look at why businesses go bankrupt, from lack of capital to poor financial management and more.
What Causes Business Bankruptcy?
Going bankrupt is one of the worst nightmares any business owner can face. While there are a variety of reasons why a business can hit rock bottom and have to declare bankruptcy, some of the key causes are outlined below:
• Poor Cash Management: Cash flow issues are the number one cause of business bankruptcy. Without enough cash on hand, businesses can’t stay afloat and end up going bankrupt. Without disciplined cash management, businesses can find themselves in a difficult spot when it comes to paying bills.
• Bad Economic Conditions: When the economy turns sour, businesses may find themselves in a difficult position. If a business relies heavily on a declining market, it’s possible it can’t withstand the dip and can end up going bankrupt.
• Poor Planning: Not having a clear business plan or failing to plan for contingencies can be fatal for a business. Poor planning can lead to bad decision making which could end in bankruptcy.
• Overleveraging Assets: It’s important to maintain liquidity when running a business. When leveraged beyond its capabilities, a business can find itself in a tough spot and may not be able to recover.
• Lack of Capital: All businesses need some form of capital to stay afloat. Without enough capital, no matter how talented a business’s owners may be, the business may be unable to survive long run.
• Lack of Competitive Advantage: Staying competitive is key to any business’s longevity. When businesses can’t develop competitive advantages over their peers, they may end up risking bankruptcy.
Personal Bankruptcy and Its Impact on Businesses
Since personal bankruptcy can result in business bankruptcy, it’s important to understand how the two types of bankruptcies can be linked. Typically, when an individual files for personal bankruptcy, the repercussions can impact their business as well. A couple of examples are mentioned below:
• Trading Losses: In the UK, personal bankruptcies can be used to recoup trading losses incurred while running the business. This means that if the business is experiencing difficulties and the manager’s personal funds aren’t sufficient to pay any debts, they can declare personal bankruptcy in order to stay afloat financially.
• Creditor Pressure: When declaring personal bankruptcy, creditors may pressure the individual to pay the debts with their business assets, which may end up bringing the business to its knees.
Repercussions of Business Bankruptcy
Business bankruptcy can have severe repercussions for all of its stakeholders, from shareholders to creditors to suppliers, and even to customers. A few of the most common are covered below:
• Shareholder Losses: Shareholders are among the first ones to experience the financial losses associated with business bankruptcy. They stand to lose any stock, bond payments, and of course, the value of their shares.
• Creditor Losses: Creditors are also at risk of losing money when a business declares bankruptcy. If a business can’t pay its debts, creditors may not receive any of the money that’s owed to them and may even have to write off the debt.
• Supplier Losses: Suppliers who are dependent on the business’s success may suffer losses of their own. Without business sales, suppliers won’t have any customers to sell to, and they may have their own payments to worry about.
• Customer Losses: Customers, too, can experience losses as a result of business bankruptcy. They stand to lose any orders made prior to the bankruptcy, and they may have to look elsewhere for the same products or services.
Common Factors To Avoid Bankruptcy
Even the most successful businesses may be at risk of bankruptcy due to external factors and unforeseen circumstances. However, there are still several common factors that can help protect a business from bankruptcy:
• Good Financial Management: Good financial management is essential for any business to stay afloat, regardless of the size. Having a clear record of expenses and cash flow can help a business anticipate its financial needs and maintain liquidity.
• Proper Planning: Planning for the future is essential for any business. By planning for contingencies, owners should be able to pivot if external market conditions change.
• Diversification: Diversifying the business’s income streams can also be advantageous. If one income is vulnerable to changes, businesses can rely on their other revenue sources to keep them afloat.
• Leverage Resources: Leveraging resources can be beneficial in a competitive market. Businesses should always strive to get the most out of their resources while cutting down on unnecessary expenses.
Businesses are key to economic growth, yet situations can arise that can cause them to declare bankruptcy. This article has outlined the top causes of business failure, the effects of personal bankruptcy on businesses, and the common factors that can help businesses avoid bankruptcy. Developing sound financial practices, planning for contingencies and diversifying income streams are all essential for businesses to stay in business for the long run.
