If your business is in the red, raise the alarm bells and act fast to maximise your chances of recovery.

A business in severe financial distress is often referred to as in the red, this means it’s in the precarious territory of running more expenses than it can afford. A business in the red raises red flags as when put under undue financial pressure, the business could collapse under the weight.

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In the red, black, and green

While a business in the red is a cause for concern and likely insolvent, a business in the black is solvent, viable and able to fulfil its liabilities because it just about breaks even. A business in the green is in a prosperous position and flourishes as it makes a notable profit.

There’s a fine line between a business that’s solvent and insolvent, so business owners must tread carefully. Keith Tully of Real Business Rescue, a company insolvency and restructuring specialist, explains why it’s the duty of the company director to ask for help, fast, if they find the business in the red, with no sight of recovery on the horizon.

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What happens if your business is in the red?

If your business is in the red, you’ll need to do everything in your power to get your business back on track. The first step is to recognise that your business is in the red. If you’re using industry-standard cloud accounting software, you should be able to access intuitive cash flow forecasting which will tell you if you’re set to run out of money, if you haven’t already.

Here are some common signs that often mean that your business is in the red:

• Liabilities vs assets – Company liabilities may outweigh assets, so money owed by the business to creditors, such as suppliers or HMRC, is more than the value of assets owned by the business.  
• Poor cash flow – If you can’t pay bills as and when they are due, this is a sign of a business in the red, at which point, a licensed insolvency practitioner may be required.  

• Creditor pressure – The business may be under serious pressure from creditors to settle overdue invoices. This may come in the form of persistent payment reminders, final payment notices, or even enforcement action.  
• County Court Judgment – If this is the final straw with a creditor, they may take court action against you and get a County Court Judgment. This is when the court decides that you formally owe money. If you fail to pay the money, the creditor may send bailiffs to collect the money or seek further court action and force you to pay.  
• Winding up petition – If a creditor suspects that you’re insolvent, they may petition to wind up your company; in other words, push it into compulsory liquidation.

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It’s the duty of the company to protect creditor interests so if the business is in the red, assess if this is a temporary or permanent state. If it’s temporary, you may require a cash injection to revive the business. This may be the case if you’ve lost a key client and you’re reeling from the financial loss, or you’re recovering from turbulent economic conditions, such as Covid-19.

If the red light status is permanent, this may signal that you need to invest in professional help from an insolvency practitioner to restructure the business and iron out inefficiencies, or because formal repayment negotiations are in order to lighten the burden on the business.