A Business Encyclopedia

Corporate Failure

Definition: The term corporate failure entails discontinuation of company’s operations leading to inability to reap sufficient profit or revenue to pay the business¬†expenses. It happens due to poor management, incompetence, and bad marketing strategies.

In a business environment, corporate failure of firms is quite common, wherein only those firms survive, that adapt themselves according to the market.

Symptoms of Corporate Failure

The basic symptoms of corporate failure are:

  1. Low profitability
  2. High Gearing
  3. Low Liquidity

The company’s financial trends may represent these symptoms, which are related to one another. First of all, the company encounters a downfall in its profit, which is reflected in the profitability ratios, such as Profit Margin, Return on Capital Employed and Return on Net Assets.

Causes of Corporate Failure

  • Economic Distress: Economic downturn is one of the major causes of corporate failures, across many businesses. The decline in the economy may lead to the reduction in the activities, which adversely affects the performance of many firms in the economy.
  • Mismanagement: Mismanagement implies improper management control over the working of the employees and other business activities. It refers to lack of managerial skills and experience, in terms of strategic capability, leadership, teamwork, coordination, foresightedness, etc. resulting in the failure of the enterprise.
  • Technological Causes: With the advancement in the technology, new modes of doing business has been introduced, which is better than the traditional ones. If an industry fails to employ the latest information and production technology, then the chance of failure of the firm may increase.
  • Working Capital Problems: When the company is going through financial distress, it may face liquidity shortages. Due to the insufficiency of funds the organisation fails to carry out the day to day operations of the organisation properly and weak liquidity becomes evident.
  • Fraudulent Management: Corporate collapse is also mainly caused by the fraud of the management. There are instances when managers are influenced by personal greed, due to which they use unfair means such as falsification in the financial statements and accounting reports of the company.

Besides the reasons mentioned above, there are other causes which also result in the sickness of the company, such as financial distress, poorly structured board, over-expansion and diversification, dishonest audit committees, etc.

It is true that the performance of every enterprise is not same, some are exceptionally successful, and some underperform, even some enterprises fail. The overall success of the enterprise depends on the people it hires and control of the management of the firm’s activities.

The company can appoint a fair audit committee, to locate the fraud by the management and also integrate control in the business. It may focus on research and development to generate new ideas, to offer better products and services to the customers.

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