Reducing your exposure to a customer’s business failure

By John Bradshaw

Other people’s cash-flow problems can quickly become your problem too. For example, if a customer becomes insolvent whilst owing you a significant debt, non-payment of the debt and/or loss of a key customer could create cash-flow difficulties for you or, at worst, lead to the failure of your business.

In a formal insolvency, for the purposes of distribution of any funds realised, save for a small part set aside for them, ordinary trade creditors (i.e. unsecured creditors) rank behind secured creditors (e.g. banks), preferential creditors (e.g. employees) and the costs of the insolvency process. Consequently, given the general lack of realisable assets in an average insolvency, returns to ordinary trade creditors in formal insolvencies are often relatively low.

Warning signs to spot which may mean your customer is experiencing financial difficulties include:

• late payment of invoices (e.g. overdue invoices paid only when further goods ordered);
• non-payment of invoices without explanation;
• payment by post-dated cheque;
• creating disputes to delay payment.

Once spotted, you should consider reducing your exposure (perhaps by limiting the supply of further goods/services or insisting on payment up front) and contact your customer immediately to seek to ascertain the true position. Your decisions should take account of the current financial position and prospects of your own business.

The risks to your business can be reduced in a number of ways including:

• Credit Checks
  Check potential customers’ credit references before opening a credit account. Regularly review credit limits and beware of agreeing to extend credit terms for the sake of a “friendly” relationship with a long established customer.
• Communication
  Regular contact with your customers will ensure that you understand their requirements and vice versa.
• Credit Control
  Implement a clear credit control procedure for dealing with overdue accounts. This should enable you to identify potential exposure at an early stage and act accordingly.
• Retention of title clauses (ROT)
  Ensure your terms are incorporated into the contracts with your customers and, if appropriate, consider including ROT in your terms so that you can, in appropriate circumstances, seek to recover your products from a customer in the event of non-payment.
• Credit Insurance/Invoice Factoring
  Explore obtaining insurance against a customer’s failure to pay. Alternatively, consider a non-recourse factoring arrangement which, whilst costing more than a recourse arrangement, will ensure that you get paid a fixed proportion of every invoice and will insulate your business from the potentially destructive impact that the failure of one of your customers might have on your business.

John Bradshaw is a partner and head of the Business Services department at Barker Gotelee Solicitors.

Ipswich Business Solicitors – for more information on our range of legal services, please call the team on 01473 611211 or email [email protected]