Join our community of smart investors

Insolvency wave looms as government schemes end

Company failures are starting to pick up after they were subdued by the unprecedented government support.
August 26, 2021
  • Company insolvencies were up 31 per cent in Q2 compared with Q1
  • Insolvency advisers are predicting a steady increase into 2022  

In May 2019, seven months before the first case of Covid-19 was discovered in Wuhan, KPMG published a report entitled 'Zombies in our midst'. The paper found that in 2018, up to 14 per cent of the UK’s publicly listed companies and 8 per cent of 21,000 private companies they looked at were only being allowed to “stagger on” thanks to the ultra-low interest rates. KPMG's conclusion? These sub-par companies had been dragging on the UK economy and would collapse when interest rates were eventually raised.

Instead of this period of creative destruction forecast by KPMG, the Covid-19 pandemic hit the UK. The government’s response was to throw unprecedented amounts of cheap loans at any business that could justify their solvency were it not for the virus. In September 2020, Onward, a conservative think tank, published a report estimating the total number of zombie companies was up to 20 per cent.

With the number of zombie companies stacking even higher than in 2019, the question is when these companies will face a return to real-world conditions and potentially go bust. 

The impact of the government support schemes on preventing insolvencies that otherwise would have occurred can be seen in the quarterly figures published by the UK Insolvency Service. From the second quarter of 2020, when the Covid-19 restrictions were brought in, to the second quarter of 2021 when they began to be lifted, there were 11,086 registered company insolvencies. This was 34 per cent less than the 16,830 in the same period the year before.

A look at the chart above shows that last year the rate of insolvency was at a decade low. However, the uptick in the second quarter of 2021, when insolvencies jumped 31 per cent quarter on quarter, is an indication of what is to come.

Ric Traynor, executive chairman of listed insolvency business Begbies Traynor (BEG), believes that rather than a sudden jump, there will be a steady rise in company insolvencies as furlough schemes are lifted in September and protections for tenants are removed in March next year. “We have already seen an uptick in figures in June and July and we are confident this momentum will build after September,” said Traynor.

If insolvencies return to the pre-pandemic levels reported by the UK Insolvency Service once all restrictions are lifted in 2022 then listed restructuring advisers such as Begbies and FRP Advisory (FRP) can expect around 30 per cent more business than in the past year. It is possible, though, especially if the Bank of England raises interest rates next year and stops quantitative easing, that insolvencies could be persistently higher than that for a few years to come.

Like Traynor, FRP chief executive Geoff Rowley is expecting restructuring work to pick up but is uncertain about the time frame. “We are looking at Q4 this year when the furloughing support stops and companies have to start paying back debts but calling that exactly and what that means in terms of numbers is difficult to predict," he said. 

Begbies' share price is up 27 per cent in the past six months and FRP’s share price up 13 per cent. However, there is a case to be made that this boom hasn’t been fully priced in yet. Begbies increased its capacity with the acquisition of fellow restructuring specialist CVR Global in January and David Rubin & Partners in March. In the case of FRP, despite posting record results last month it is still trading below its price from this time last year.

Gateley (GTLY), a listed law firm that is often instructed by Begbies on its restructuring work, is another company that can expect a slight pick-up, although it is not as exposed as the specialist advisers. In Gateley's full-year results published last month, it reported that banking and finance revenues were down 4 per cent because of the reduction in demand of its restructuring work. The firm said it "remains well placed to advise clients if difficulties emerge as Government support schemes unwind”, however. 

Without government support, the next year could get a little messy for a lot of companies and their creditors. Companies House has already reported a case regarding the director of Ikandy Wholesales transferring £50,000 of bounce-back loans to himself before his business went into administration, while the Greensill Capital scandal – in which Lex Greensill's firm received guarantees on hundreds of millions of pounds of Covid-19 loans meant for "small and medium-sized businesses" – shows bigger players also took advantage of government largesse. 

This undead horde could soon be back in the ground, with shareholders always the last in the line of creditors.