3.6.3 (HL)—Insolvency and bankruptcy

A business is insolvent when it cannot meet debts as they fall due or its liabilities exceed the value of its assets. Bankruptcy is a legal process for an unincorporated owner; a company may instead enter administration or liquidation.

A profitable business can become cash-flow insolvent if money is tied up in stock or receivables, while a temporary loss does not necessarily mean failure if finance remains available. The ownership form changes the legal consequences and who bears the loss.

If suppliers demand payment before a seasonal customer pays, a cash-flow forecast may reveal an immediate gap. Negotiating terms, raising finance or selling assets may help; if recovery fails, administration can protect a company while a plan is attempted, whereas liquidation sells assets and closes it.

Insolvency is not identical to bankruptcy, and one bad ratio does not prove either. Test whether debts can be paid when due and whether liabilities exceed assets, then identify the ownership form and applicable legal process before drawing a conclusion.