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How to protect your business from financial shock waves

on Monday, 19 November 2018. Posted in Financial management, Finance

As the number of businesses entering insolvency is on the rise, small-business leaders must take extra care to ensure they don’t join the ranks of failed enterprises

How to protect your business from financial shock waves

Across England and Wales, a total of 4,308 companies entered insolvency in Q3 of 2018, an increase of 19.3% when compared with the same period last year.

Construction was one of the worst hit sectors, with the liquidation of Carillion at the start of the year sending a shockwave through its network of contractors, sub-contractors and sub-sub-contractors.

At Coface, we know all too well that for every business that fails, an average of ten other businesses suffer from bad debt as a result. Failure leads to late payments, which lead to more businesses going belly up. This domino effect means over the same period, more than 39,000 UK businesses are likely to have been affected by bad debt.

It shows how a financial shock can have a domino effect across the whole supply chain. But while bad debt and protracted late payment are huge problems affecting businesses in all sectors, small and medium-sized businesses are more vulnerable because they generally don’t have the cash reserves to cover financial shortfalls.

According to a report by the Association of Business Recovery Professionals (R3) in June 2018, 38% of companies with a turnover of between £5m and £24.9m reported a negative financial impact following the insolvency of a customer, supplier or debtor in the previous six months, compared with 30% of larger companies with turnover of over £25m. 

In general, it’s believed that around 25% of bankruptcies are caused by unpaid invoices and even resilient businesses take time to recover from such a setback which inevitably has an impact on investment and growth.

Who gets paid first when a company goes bust and how much is left for unsecured creditors?

When a company goes into administration or liquidation, its remaining assets are sold to clear as many of its obligations as possible. You may not know it but there’s a strict pecking order about who gets paid when the assets are sold. And as a supplier or contractor you’re pretty close to the back of that queue.

This is how it usually goes. The first payment goes to the insolvency practitioner to pay their fees for overseeing the process. Next to receive payment are the secured creditors such as banks, asset based lenders, finance and agreement providers. Third in line are the preferential creditors such as employee claims, which are subject to limits set by the government. After that come the unsecured creditors such as HMRC, suppliers, contractors, landlords and customers. Shareholders will only get paid when all creditors are paid in full.

So how can you protect your business?

It’s important not to think of bad debt and late payment as an unavoidable risk.  Unfortunately, many businesses believe they have no choice but to hope that customers are able to pay their invoices and adopt an overly cautious approach which inhibits their growth. However, there is a way to seize the initiative and trade with confidence.

A credit insurance policy will allow you to manage your cash flow safe in the knowledge that you’re protected against unpaid invoices as well as insolvencies. More importantly, credit insurance limits the risk of a bad debt in the first place by tracking the trading behaviour of companies helping you to evaluate the financial health of potential customers and alerting you to changes in the financial health of existing ones. This enables you to focus on the best prospects in the UK and beyond. 

And in addition to helping you to trade safely, a policy from a respected credit insurer provides strong evidence that your own business is a good risk. That should make it more attractive to banks, investors and suppliers, helping to improve your credit options and secure the best borrowing terms. 

Amid the current economic uncertainty, it makes sense to protect your company from sudden financial shocks. By working with the right business partner, you can secure the future of your business, stay informed and ensure you’re ready to take advantage of new opportunities. 

This article was brought to you by Coface a leading provider of credit management solutions.

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