SMEs make up a large part of the insolvency work that we at McDonald Vague handle and the reasons for those insolvencies range from events beyond the control of the company directors to a complete lack of knowledge and understanding as to what is required of them.
In this article we will look at some of the causes, symptoms and actions that can be taken to recover companies facing financial difficulties.
Causes of company failure
The causes of company failures, as reported to us by directors, are many and varied and the real reason is not always identified correctly by the directors. There are, however, common themes that come through which include:
1. Having all their eggs in one basket
It is not uncommon in insolvencies to find that the failure of the company has come about because it has all, or at least most, of its eggs in one basket. The sudden failure of the major client or the decision by that client to go elsewhere leaves a yawning gap in the company’s cash flow.
Directors don’t always have the marketing skills to get out and promote their business, nor the financial understanding to see ways to restructure their company to take into account the sudden loss of a major client and bring about recovery of the company.
2. Economic downturn
A sudden down turn can sometimes lead to the company cutting its prices in an endeavour to obtain work but without giving enough thought to what it actually costs to do the work. The directors continue to operate but have no margin or insufficient margin to enable them to meet their costs and catch up on old debt.
3. Lack of company administration and accounting skills
A number of the small companies that we liquidate are companies incorporated by tradesmen who charge out their services. Many of them have become company directors because they have been advised that they will be better off working for themselves through a company structure.
While they may all be very capable plumbers, builders, electricians many know little about the requirements of running a company and managing its finances. They often start with a few tools and a vehicle, no operating capital and no administration systems in place.
Many do not keep accurate records of the income and expenses, fail to carry out basic functions like checking off bank statements and essentially exist day to day. If there is money in the bank account it may be spent on personal items without giving any thought to things like GST & PAYE. What generally follows is failing to pay the IRD.
The cumulative effect of these failings is the downward spiral of the business until a creditor, generally the IRD, puts the brakes on them by threatening to wind them up unless payment is made.
Red flags that indicate all is not well with the business
These often include –
- GST refunds for 2 or 3 periods in a row. If the company is consistently spending more than it earns investigating the reasons.
- Failure to pay PAYE and GST on time or at all. PAYE, in particular, is “trust” money deducted from employees’ wages. It should not be available for operational purposes.
- A steady increase in the outstanding creditors and increased age of the debt.
- A constant need for the shareholders to support the company with funds without any light at the end of the tunnel.
- Increasing pressure from creditors to make payments and a change to COD for supplies rather than on credit.
- Statutory demands being made on the company by creditors.
How McDonald Vague can help bring about a company recovery
If you go back to the causes for company failures you will see that most of the problems can be rectified by seeking, receiving and acting on good advice.
McDonald Vague typically look at the past performance of the business, its current financial position and give our expert opinion as to whether or not a company recovery is possible. We can then assist by identifying and helping to implement a company recovery plan.
This can include –
- Putting in place improved management and financial reporting systems
- Restructuring the current debt through negotiations with lenders and compromises with creditors
- Identifying areas within the business where the company may need to engage other outside expertise such as marketing and legal advice
The vast majority of company directors and shareholders don’t set up their company to fail but sometimes, through a combination of matters beyond their control and a lack of skills and understanding of the requirements, that is what happens.
Getting expert advice at an early stage of the company’s problems means that recovery is possible so, if you are seeing some of the red flags outlined above in your own business, or that of a client, give our office a call and arrange an initial consultation at no cost. It may be the first step to a full company recovery.
This article is intended to provide general information and should not be construed as advice of any kind. Parties who require clarification on issues raised in this article should take their own advice.