Higher interest rates could spark new wave of insolvencies

A new wave of firms could require insolvency advice to help avoid a situation where they are handed a winding up order if interest rates increase.

According to a report in the Financial Times (FT), if the Bank of England's Monetary Policy Committee does not keep its base rate low, companies that are just getting by at the moment could be pushed over the edge.

It noted that there are thousands of UK enterprises that are just managing to pay off the interest on their debts, but do not have a long-term plan for clearing the balance.

These 'zombie firms' are being kept in a state of limbo by the country's culture for keeping businesses afloat.

While some may not have a long-term future, others could be returned to viable, profit-making businesses given the right help, the report argues.

There is also a risk that if consumer spending drops even further – which it may well do thanks to inflation, pay constraints, job insecurities and increasing rental prices – then some zombie firms could be at real risk of corporate insolvency.

According to the FT, many enterprises have been thrown a lifeline by low interest rates and Her Majesty's Revenue & Customs' (HMRC) Time To Pay arrangements.

However, it pointed out that this charity from the banks and the taxman cannot last forever and suggested that if either loses patience then it could spell disaster for some companies.

Institute for Turnaround (IfT) chief executive Christine Elliott explained that zombie firms are businesses that cannot generate cash or attract new investment without significant changes to the way they operate.

"They are in a state of limbo, being neither alive nor dead. Some banks and private equity companies claim to have very few on their books, but for others they may comprise 70-80 per cent," she said.

IfT data shows that more than 60 per cent of its members have dealt with zombie companies, which could spell trouble if the current economic climate changes and these firms are pushed to the brink of insolvency administration.

Analysis from PricewaterhouseCoopers shows that insolvency figures were up two per cent year-on-year to 3,531 in the second quarter of 2011.

However, they are down significantly on the 4,216 recorded in the first three months of the year – a 16 per cent decline.

PWC business recovery services partner Mike Jervis noted that many firms have survived the downturn when they would not have necessarily done so in previous recessions.

"This is because of much more sophisticated stakeholders, rescue techniques and early warning systems," he told the publication.

"Being heavily indebted has not rung the death knell for companies with viable operations. However, declines in consumer demand and government spending cuts, which are capable of decimating turnover, will be the catalysts for new corporate distress."

Meanwhile, recent figures from R3 showed that the construction sector may be most at risk of firms requiring bankruptcy advice.

The statistics revealed that bankruptcies from business debts in the building industry shot up by a quarter (24 per cent) in the first three months of this year.