Dealing with an Insolvent client can kill a profitable business. If your client becomes insolvent it will have a significant knock-on effect, that will impact on your company cashflow, leaving you as a creditor with unpaid invoices that will likely never be paid.
In 2015, more than 100,000 UK businesses found themselves as creditors to an insolvent business, and many will have found their cash flow at serious risk as a result. Any business, irrespective of size, is at risk if their client becomes insolvent but for freelancers and micro-businesses these risks are magnified.
The Domino Effect
Insolvencies can trigger a domino effect in the supply chain, where the failure of one business can cause their suppliers serious cash flow problems, that then in turn cause their suppliers financial difficulty and so on. Even if you manage your own business finances well, it only takes a couple of missed invoices to throw your best laid plans into chaos. That’s why the financial health of your clients needs to be a key concern.
Phillip Sykes, R3 president says:
“Businesses need to take preventative measures and properly asses risks before trading with individuals or other firms. Doing so will minimise the chance of being exposed to others’ insolvencies in the first place.”
2 Steps to minimise your credit risk
As Mr Sykes states above selling your goods or services on credit is an investment in your client’s business and like any investment you should carefully consider the risk vs the reward.
The simple fact is most bad debts due to insolvency can be avoided provided you follow some simple steps to identify and manage your credit risk throughout the relationship. So whats first?
1. Due diligence
Before jumping on that lucrative contract, make sure you conduct proper due dilligence on the company that you will be investing in.
At its most basic, this means securing a credit report on your potential client to understand their financial position and corporate history. While credit reports aren’t a perfect or infallible tool, they are very good way to instantly see your customers most recent financial filings and they are an excellent way of flagging potential danger signs like County Court Judgments.
Credit reports can also guide you on the best way to manage your credit provision. For example, you might decide to set a low credit limit for one particular high risk or new client to reduce your exposure, while offering longer terms and higher limits for clients with a stronger financial position.
Be very wary of any newly incorporated companies that have no financial information available, or of companies that have any record of action being taken against them in the County Court.
Expanding on this theme Mr Sykes said:
“Businesses need to be savvy about who they trade with. If a business isn’t paid up-front or on delivery, or pays in advance for its own supplies, it is essentially lending money to those with whom it is trading. This sort of ‘lending’ doesn’t have the same protection in insolvency situations that secured lending, like a mortgage, enjoys.”
2. Prompt payment
The second step to avoiding being caught by a client going bust is to proactively manage your sales ledger and take prompt action to recover unpaid invoices. In our experience insolvent companies will often try to delay the inevitable by slowing or stopping payment to their suppliers in an effort to “top up” their cashflow. With reduced lending from banks available, delaying payment to creditors can become an attractive proposition.
That is why if you have an invoice or invoices unpaid you must take steps to recover what is owed sooner rather than later. If your client has debts of £50k but only reserves of £20k creditors that take prompt action to recover debts stand a much higher chance of recovering the balance and avoiding becoming a creditor of an insolvent company.
Mr Sykes of R3 says:
“Credit control can be a real problem for smaller businesses. They might be selling goods or services, but it can be difficult for a small or growing business to make sure it actually collects what it is owed.”
If your company doesn’t have the time or the skills to take action on unpaid invoices then outsourcing the recovery to a debt collection company or solicitor could mean the difference between getting paid and going bust.
Checks and balances
When working with any new client, it’s sensible not to allow debts to build too high in the first place. Monthly or even weekly invoicing is a good idea, so you can limit your exposure to a bad debt, and taking a deposit helps to show people that you’re serious about being paid in full and on time.
In addition, you should continually monitor the financial health of your existing clients. A bi-annual credit review can help you spot changes in circumstances that will allow you to increase or decrease access to credit and potentially avoid allowing a struggling client to use your money as an interest free loan.
In terms of insolvency, forewarned is forearmed. Many businesses expect credit checking tools to be prohibitively expensive. In fact, if your business is less than 2 years old you can purchase a bundle of 99 simple credit reports for just £99 through our Experian deal, which makes the service accessible to pretty much any new business.