In formal terms, liquidation means “to bring a company to an end and distribute its assets to its claimants,” i.e. to close it down. With the current market conditions, many people expect to see a jump in liquidations as companies go out of business, especially among the SME sector. Revenues have decreased following restrictions on travel and subsequently trade, buffeting the first half of 2020 and striking a blow to profitability and cash flow.
When a company liquidates, the usual assumption is they have run out of money. From an accounting perspective, they have become insolvent when the value of their liabilities is greater than that of their assets. However, liquidations occur for other reasons that aren’t always reflected in statistics.
Among our clients, we have seen a three-fold increase in liquidations from Q1 2019 to Q1 2020 due to companies re-evaluating their group structures and costs. 68 per cent were to minimise costs for group companies and 32 per cent were for licences no longer required. None were the result of bankruptcy. Astute companies are restructuring and streamlining their operations to improve profitability. In this scenario, liquidation is a positive strategic step for a more secure future.
Group owners will look to consolidate companies or divisions, reducing overheads to keep some of their companies or trade licences afloat. Closing a company may mean a short-term cost that comes with a much larger long-term saving. Companies can save up to 60 per cent by closing older, more expensive licences and opening newer, more cost-efficient entities (as there are significant discounts available on new company structures at the moment).
Steps to mitigate the risk of closure
Cash flow management is a hot topic that SMEs are grappling with. Decreasing overheads is a fast way to improve profitability, so companies are looking to reduce salaries, rents and other fixed costs. Careful planning of income and expenditure is vital to create a solid foundation for forecasting. Even with cost reduction and planning, there may be unexpected hurdles, so it is important to identify any future cash crunches and plan accordingly. Those that fail to plan, plan to fail.
In April 2020, the UAE Central Bank announced a stimulus package of Dhs256bn aimed at helping banks to bolster the economy with liquidity. If SMEs can tap into these funds through overdrafts, lines of credit and loans, they can not only stave off liquidation, but access capital to help them grow their businesses.
Approaching the private equity market for investment can bring more than just cash to the coffers. If a company takes on an investor, it is in the best interests of the investor to make that company successful. As such, it is very common for the investor to open up a new network for new sales, plus their business acumen and support can be an enormous asset.
Another alternative to liquidation is partnering with a competitor or a complementary business. Joining forces can reduce costs significantly by sharing overheads and resources. It can also lead to sharing clients and benefiting from previously untapped revenue.
While we do expect a higher number of liquidations overall, that doesn’t always mean the ceasing of operations altogether. And there are some positive signs ahead.
With sufficient planning and foresight, stronger, more efficient and streamlined organisations will emerge in a position to dominate once the market conditions improve.
Crucially, that planning needs to happen now.
Scott Cairns is the managing director for Creation Business Consultants