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Business Insolvencies Are on the Rise: Avoid These 6 Pitfalls to Reduce Your Risk and Improve Your Financial Resilience

By Royal Bank of Canada

Published March 31, 2025 • 11 Min Read

TLDR

  • The way a business responds to either external and internal pressure – rather than the pressure itself – is often the difference between thriving and failing.

  • Successfully managing cash flow and debt are crucial to the ongoing viability of your business.

  • Expanding your customer base can help hedge against market trends and challenges.

  • Leveraging free business tools and the advice of an expert can help you stay ahead of issues and remain financially resilient.

 

Ever wondered why some businesses get off the ground easily, moving from start-up to thriving within a couple of years – while others fail? Business insolvencies surged in 2024, rising 28.6% over the year before, with the construction, transportation, warehousing and hospitality sectors experiencing the biggest increase. In a mid-year study conducted by the Canadian Association of Insolvency and Restructuring Professionals, 386 Canadian businesses filed for insolvency each day in the second quarter of 2024.

While a variety of external pressures can affect the solvency of a business – from high interest rates to inflation to tariffs – the way a business responds to these headwinds is often the difference as to whether it remains stable or runs into financial trouble.

With 2025 bringing its own set of economic hurdles for Canadian businesses, recognizing the common mistakes that lead to insolvency can help you stay in the black and maintain a financially healthy operation. Keep in mind, being proactive is key. Taking the below steps today will be far more effective than waiting until you find yourself in a more vulnerable, or even desperate, position.

Here are six common pitfalls that can lead to insolvency – and how to help avoid them:

1. Losing control of your business cash flow

Cash flow is the lifeblood of any business – so it stands to reason that losing a grip on it could lead to some financial distress. For instance, mismanaging cash flow could make it hard to cover expenses – from paying rent to covering payroll to making payments to suppliers – which could lead to penalties and interest, costing the business more.

Poor cash flow management can also stunt the growth of the business. Little to no cash on hand can hold you back from acting on opportunities as they arise. And in tougher economic times, a lack of cash reserves could leave you without the safety net you need.

Solution:

Making your cash flow a priority is crucial. This involves continuously monitoring and forecasting what’s coming in and what’s going out – and reacting accordingly. Here are some tips to consider:

  • Stay on top of payments from your clients: Slow receivables can put your cash flow at risk. If you have clients who consistently pay late, it may be time to implement some early payment incentives (or late payment penalties)

  • Monitor your inventory: Take note of what’s sitting and what’s selling and shift your product mix as demand changes. It can also be worth setting prices with cash flow in mind—higher for fast movers, lower for slow movers

  • Ask for deposits: If your selling cycle is long, putting you in frequent cash flow crunches, a deposit can help bridge you until the final product or service is delivered

  • Use online and mobile banking: These tools can enable you to collect your payments quickly without scheduling a trip to the bank, giving you access to cash sooner

  • Use forecasting tools: Our Cash Flow Forecast tool to help you avoid cash flow shortfalls and generate a surplus

2. Not understanding your financial position

There’s a difference between understanding that your business is facing financial challenges and understanding the “why” behind the numbers. Are you lacking competitiveness when bidding for jobs? Have your sales decreased? Perhaps your expenses have gone up and you’re absorbing these increases rather than passing them along to your customers.

Getting to the bottom of any issues with your financials is the key to fixing them.

Solution:

Do a financial deep dive. This involves gathering your financial statements, such as your income statement, cash flow statement and balance sheet to get some clarity on your financial position.

  • Graph your sales or business income in the last six months. What do you forecast for the next year? If the numbers are decreasing where is the bleed happening? For example, if you see slow turning inventory in a specific product, explore ways to unload it faster with discounts.

  • Calculate your expenses on a rolling monthly average. If expenses are rising, look at ways you can trim them or run scenarios where your price is increased to offset inflationary pressure on your margins and consider increasing your prices. Read: Thinking of Increasing Prices to Boost Your Business’ Bottom Line? Ask Yourself 3 Questions – My Money Matters

It’s also worth using ratios to calculate some key financial indicators, such as your profit margin, ability to service debt and whether your business has enough cash flow to meet your short-term obligations.

Here are some ratios you can use to get to the root of your financial position:

+/- Current Ratio

Also called Working Capital Ratio, this calculation indicates whether your business has enough cash flow to meet your short-term obligations, act on opportunities and look good in the eyes of potential lenders. It can also help you avoid cash flow problems before they surface.

How to calculate Current Ratio

Divide your current assets by your current liabilities. Ideally, your Current Ratio should fall between 1.5 and 2 — a ratio of 1 means you may not have enough money to last the year, while a ratio of more than 2 could mean you’re not investing enough into your business for the future.

+/-Debt Ratio

Your Debt Ratio shows the percentage of your business’ assets financed by creditors. It’s a ratio a lender will look at before lending money to your business, so it’s wise to know this number before planning the year ahead.

How to calculate Debt Ratio

Divide your total debt by your total assets. A good Debt Ratio largely depends on your industry, but anything below 0.3 is considered fair. With anything above 0.6, it may be difficult to obtain additional loans.

+/- Gross Profit Margin

This calculation shows you what percentage of your income is profit after paying for the cost of doing business. These costs include labour, materials and other production costs. While it can help you assess your company’s financial health, it’s best used to track your company’s performance over time or benchmark your business against companies in the same industry.

How to calculate Gross Profit Margin

Subtract your expenses/ cost of goods sold from your net sales (gross revenues minus returns, allowances and discounts). Then, divide that number by your net revenues and multiply by 100% to calculate the gross profit margin ratio.

+/- Debt Service Coverage Ratio

The Debt Service Coverage Ratio (DSCR) is a key measure of a company’s ability to repay its loans, take on new financing and make dividend payments. Different debt providers may have different numbers they like to see; however, the greater the value over 1.25 (125% coverage), the better. The key value in calculating DSCR is identifying your company’s net income. If your business has a growth plan requiring investor/lender assistance, it is important to maintain a strong DSCR.

How to calculate Debt Service Ratio

To calculate DSCR, divide net operating income by debt service, which is the sum of all current debts, including principal and interest.

3. Focusing too much on the details – not the future

As a business owner, it’s easy to fall into the trap of working ‘in’ the business rather than ‘on’ the business – that is, you get caught up in the day-to-day operations without taking the time to look up and see where you’re headed.

Solution:

While running your business is of course vital to your success today, taking a step back is crucial for your success tomorrow and down the road. Understanding your financial position, forecasting future sales and updating your financial statements are all essential steps to steering your business out of the path of trouble.

And don’t forget your business plan! Consider this as a living, breathing framework rather than a document you create once and file away. A good rule of thumb is to update it at least once a year to ensure the plan is relevant and considers new market shifts, challenges or opportunities, and remains relevant to your business’ core mission.

Online tools can help make the idea of tackling your business plan less daunting. Use the RBC Business Plan Builder to create or update your plan using an easy template and intuitive questions.

4. Taking on too much debt

While credit can help cover financial gaps at times, relying too much on credit can lead to mounting debt that is difficult to pay back. Interest costs can add up and businesses may find all their revenue is being funneled into debt repayments.

Too much debt can also lead to reputational damage – suppliers, banks and investors could lose confidence, making it harder to secure financing when it’s needed most.

Solution:

Incurring debt is inevitable for business owners – the trick is to limit and structure it so that it’s manageable – even when times are tight. Here are some strategies to consider:

  • Restructure existing debt: Consolidating multiple, higher-interest rate debts (i.e., credit card balances) into a single, lower-interest rate solution (i.e., line of credit) can reduce your interest costs and simplify your debt repayment

  • Consider other funding sources: Non-repayable government grants and incentives can provide funding for businesses looking to expand, create jobs, advance innovation, launch environmental initiatives and more. Take a look at our article 5 Ways Grants Can Help Grow Your Business in 2025 for more information about using grants to advance your business.

  • Talk to your bank: An advisor can help you work through your debt, present financing solutions and identify ways to relieve current pressure.

5 min read: Should You Borrow to Help Grow your Business? 6 Questions to Ask

5. Patchwork business financing

Are you taking from Peter to pay Paul? Shuffling money around to cover shortfalls in various areas can lead to a vicious – and unsustainable – cycle. Eventually, the money can run out and leave you unable to meet your obligations.

Solution:

Consolidating debt and considering other financing methods can again help in this instance – as can drawing on your established business relationships.

  • Work with your suppliers: You may be able to work out modified payment plans that can help you get over a crunch

  • Examine your personal situation: Can you reduce the amount of money you pay yourself from your business in the short-term?

  • Keep your business and personal finances separate: As you review your personal situation, evaluate whether you have good separation between your business and personal accounts and assets. If you need to return business assets due to financial difficulties, you want to ensure your personal property is protected.

  • Reach out to an advisor: They may have other ideas that can help you shore up your balance sheet and plug any holes that are threatening your business. It’s important to be transparent here – your advisor can only help with solutions if they know there is a problem. To that end, be sure to have your financials on hand to make the most of your discussion. Even mid-year numbers will be able to help your advisor guide you.

6. Revenue dependence on a narrow client base

If you’re dependent on a single market or customer base, you’re opening yourself up to risk. What if that market falls through? If they find an alternate supplier or their needs change, you may find yourself low on buyers.

Solution:

Even if your market seems strong now, it’s important to diversify to spread out your risk. It’s also important to stay informed about market trends and adapt your business model to respond to industry-specific challenges.

Turning Point: Real Entrepreneurs Share Their Marketing Secrets for Growing a Customer Base.

If doing business internationally is an option for you, you can leverage tools and insights to help you identify global markets. If you have been relying on the U.S. market, now may be the time to explore opportunities in other countries. The Trade Hub, a new digital platform, aims to highlight opportunities for Canada in this new economic order. 

In challenging economic conditions, it’s important to improve your financial resilience to reduce the risk of insolvency. Understanding the common pitfalls – and the solutions that exist – can help your business stay healthy.

This article is intended as general information only and is not to be relied upon as constituting legal, financial or other professional advice. A professional advisor should be consulted regarding your specific situation. Information presented is believed to be factual and up-to-date but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. No endorsement of any third parties or their advice, opinions, information, products or services is expressly given or implied by Royal Bank of Canada or any of its affiliates.

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