The statistics published by the Insolvency Service on 30 July for the second quarter of the year – April to June 2020, or “Q2” – generally confirmed a 25% fall in company insolvencies when compared to the first quarter of this year, and a one-third fall compared to the same quarter ending June 2019.
These figures may inspire optimism for the UK economy during these extremely difficult circumstances. To some, they may present a picture of an economy that is faring better than anticipated, given the obvious challenges presented by the COVID-19 pandemic. However, this optimism is likely misplaced. To understand the true picture, one needs to delve into the reasons behind these seemingly “positive” statistics.
The government’s emergency measures in reaction to COVID-19 have largely stemmed the number of insolvencies during the course of recent months, including during Q2. Such measures include the deferral of tax payments to HMRC, restrictions on the use of statutory demands and winding up petitions, restrictions on landlord action to recover rent arrears and enhanced financial support (under the Coronavirus Job Retention Scheme, or furlough scheme, and coronavirus business loans). In offering this support, the government has thrown a lifeline to companies which would have otherwise collapsed.
The imposition of drastic lock-down restrictions simply ‘turned off’ many companies’ revenue overnight, especially in retail, hospitality and other ‘non-essential’ sectors of the economy. Without the government’s rapid intervention to provide ‘breathing space’ and financial support, the demise of these companies would have been inevitable.
Therefore, rather than painting a wholly positive picture, the Q2 insolvency statistics more accurately reflect the result of this intervention. Many in the insolvency and restructuring world predict that the anticipated mass business failure has simply been ‘put on ice’ - avoiding, for now, the implosion of the UK economy.
So, is the outlook for Q3 (July to September) and Q4 (October to December) all doom and gloom? The blunt answer is probably ‘yes’.
Whilst the government’s measures have clearly been successful in the short term, they simply postpone the inevitable for many. Struggling companies sit on ever-increasing mountains of debt. While certain liabilities have been deferred (such as tax payments to HMRC and rent obligations), they continue to accrue and will need to be settled in the near future. Similarly, whilst the popular government-backed loans have eased cash flow pressure in the short term, they must eventually be repaid. For those companies already in difficulty prior to COVID-19, repayment may simply be impossible.
Significantly, the single biggest expense for most companies - wage costs – has largely been shouldered by the government during the pandemic as a consequence of the furlough scheme. Recent changes requiring employers to now pay national insurance and pension contributions for furloughed employees will be an additional financial pressure many companies will simply be unable to bear. With furlough support tapering prior to coming to an end mid-autumn, some warn that widespread redundancies may be on the horizon.
The government’s temporary support measures are currently anticipated to cease in September or October – that’s when reality will bite. In the absence of an extension of these measures, a sharp increase in company insolvencies seems inevitable. Even for those businesses that manage to survive autumn’s cliff edge, the question remains whether trading conditions will generate enough turnover to make it. With social distancing measures looking likely to remain in place for the foreseeable future, businesses that rely on high footfall – particularly within the retail, casual dining and hospitality sectors – will be forced to operate with lower capacities. Adapting their business models in order to allow them to survive will be a challenge.
Other casualties of the pandemic have undoubtedly been the airline and travel sectors, with travel companies such as TUI and Hays recently announcing widespread high-street store closures and mass redundancies, in addition to the well-documented financial woes of airlines such as British Airways and Virgin Atlantic. The removal and tapering of the government’s financial support package seems likely to only make matters worse. Virgin Atlantic’s use of the new restructuring plan (a process introduced by the Corporate Insolvency and Governance Act 2020) is a development that has attracted much interest. Only time will tell whether such a plan is the tool to facilitate the airline’s rescue; if successful, others might be keen to follow if they can.
Whether companies within the airline and travel sectors can ever return to pre-pandemic profitability, without continued government support, will largely depend on consumer appetite to travel in light of the ongoing pandemic. The next few months of trading will be critical if they are ever to have a chance of survival in the longer term.
In this context, many companies are inching towards the proverbial ‘cliff edge’. It will be interesting to see if Q3’s insolvency statistics (due to be released on 30 October) will start to reflect the expected increase in company insolvencies, or whether companies can turn things around in the short term. This will largely depend on trading patterns and (especially in the hospitality and retail sectors), customer confidence and a willingness to spend.
With already high unemployment rates, if there are widespread redundancies, we predict Q4’s statistics will confirm the inevitable, even without a second coronavirus spike or further lock-down.
First published in Accountancy Today. Reproduced with permission.