A recent press release from the insolvency trade body, R3, (click here) has identified that more than 20% of UK corporate insolvencies in the last 12 months have been caused by debtor default or late payment.

That means that a significant number of corporate insolvencies have been caused by matters that are outwith the control of the directors of that company – or does it?

When a supplier gives credit to a customer, the supplier is, in effect, making a loan to that customer. It is in the interests of the supplier to give that "loan" to encourage customers to transact and to increase the turnover (and hopefully the profit) of the supplier.

The giving of credit necessarily exposes the "lender" to the risk of default by the customer, most notably of course upon the insolvency of the customer.

Where the giving of credit and the subsequent failure to repay would constitute a substantial risk to the business, it is incumbent upon the directors to first consider the risk of that insolvency or other non-payment upon the cashflow and balance sheet of the business. After all, no sensible business would make a substantial cash loan to a doubtful debtor if the consequences of non-payment would be fatal to the business. However it appears from the R3 figures that that is exactly what has happened in a significant number of cases. R3 have identified that this seems to be particularly prevalent in the construction industry.

Businesses can of course take steps to minimise the risks that they are exposed to as a result of the potential failure of their customers. Credit insurance may be available (at a price).  While bad debts and customer insolvency can appear out of nowhere, it is often the case that there will be prior warning signs about the solvency of a debtor. Continually monitoring the financial position of major customers can pay off.

If there are any doubts about the solvency of a debtor, steps should be taken as early as possible to minimise the exposure to that debtor.  That may mean restricting credit, seeking security or guarantees or ensuring that terms and conditions of supply are watertight and contain appropriate protections – (such as retention of title).

Taking early debt recovery action against a debtor who it is suspected may later default, may elicit payment from that debtor prior to a subsequent insolvency.

Of course taking such action may imperil any future trading with that debtor, but it has to be borne in mind that the only customer worth having is one who pays. Sometimes taking the hard decisions, such as demanding guarantees or taking pre-emptive legal action, may be necessary to save a business – even if it means losing a customer.

There are a number of steps that can be taken to identify and minimise the risks from defaulting debtors and MacRoberts Debt Recovery and Dispute Resolution teams can assist.

© MacRoberts 2016

Disclaimer

The material contained in this article is of the nature of general comment only and does not give advice on any particular matter. Recipients should not act on the basis of the information in this e-update without taking appropriate professional advice upon their own particular circumstances.