You usually enter bankruptcy when you become insolvent, that is to say when you can't pay your bills (it can be the salaries of your employees, a bill from a supplier, debt interests, rent, utility bills, etc.). You can run a profitable business and go bankruptcy because you are out of cash, and nobody agrees to lend you some.

This is not unlikely when you have to pay your suppliers before you collect payments from your customers. And realistically that's the common case, not the exception. This is why cash flow is so important for any business.

Not necessarily. Generally, firms become insolvent if they can't meet their liabilities as they fall due (things get a bit more complicated for regulated firms such as insurers, which also have to worry about solvency ratios). If a firm's current liabilities exceed its current assets (where 'current' is defined as 'to be received/fall due in the next 12 months') then it's likely to be in trouble. Examples of current assets are cash, stock and trade debtors (i.e. other firms you have supplied to on credit), and current liabilities include trade creditors (firms who have supplied you on credit). These contrast with fixed assets and long-term liabilities, which aren't expected to arise for over 12 months (e.g. a 5 year bank loan).

If firms automatically became insolvent when liabilities exceeded assets, then no one would ever be able to start a firm with a bank loan, because from day one the liabilities (loan + interest) would outstrip the assets (cash).

It's also possible for a firm to have assets which exceed liabilities but still be insolvent, for example a property company with large fixed assets but little cash in the bank to meet its running costs.

Thanks, that clears it up.

> Doesn't a company with less assets than liabilities have to enter bankruptcy even if it's profitable?

No. A company is at risk of being forced into involuntary bankruptcy when it cannot meet its current obligations, which is different than having less assets than liabilities; but even when insolvent it doesn't have to enter bankruptcy, though its creditors can force it to do so (and, if it is profitable and expected to remain so, its creditors might not want to force it into bankruptcy, because they may expect the liabilities to be more fully paid, if delayed, if the firm remains in operation vs. bankruptcy.)