Member Article

Maintaining cash flow is a significant challenge in the current economic climate. What started as a 'credit crunch' is now a real squeeze for business - with customers trying to defer payment terms while suppliers apply pressure for earlier payment.

 

Pre-contract

Truly effective credit management begins at the pre-contractual stage, as this is usually the point of greatest leverage with the customer.

Useful pre-contractual steps to be considered include:

• incorporation of standard terms of business (including retention of title provisions)
• establishing realistic credit limits and enforcing them
• considering taking security (for example fixed or floating charges and/or personal guarantees from directors)

Active credit management

From the point an invoice is rendered, active management of a debt portfolio is essential to ensure the customer's attention is focused on payment.

Some obvious but often overlooked steps include:

• verifying your customer's details and trading status at the account opening stage, and periodically through its ongoing management
• ensure invoice is correctly addressed, orders identified and payee correctly named
• despatch as soon as possible and resolve supply 'performance' issues quickly
• ensure you have the relevant proof of delivery

It may help to develop a practice of contacting the customer before the due date and assert the expectation for payment to be made. Explain the consequences of non-payment. On the due date, act on any default without delay - send an immediate reminder.

Within seven days of that reminder, contact the customer by letter to advise that the due date has passed and payment is required. Consider restriction or stopping further supply to the customer.

Within a further seven days, take recovery action.

Recovery options

We look below at some of the most common recovery options, and their main advantages.

Court proceedings

This is the traditional recovery route, where a 'Claim Form' is issued against the debtor with the objective of obtaining a judgment for the money due.

The routes to obtaining judgment are varied. Once secured, payment is usually due within 14 days; failing which, enforcement action can be taken.

If early judgment can be obtained, then court proceedings are a reasonably inexpensive and quick option. For example:

• for cases of less than £5,000 proceeding in the small claims court, judgment at a final hearing can often be achieved within a matter of weeks. However, it is not usually possible to recover your legal costs
• judgment at trial in higher value cases is likely to take a number of months, and be significantly more expensive, but it is usually possible to recover legal costs in cases of £5,000 or more

The insolvency route: Winding up and bankruptcy

Although, strictly speaking, winding up and bankruptcy procedures are not recovery actions, they can be useful tools for recovering undisputed debts. They are petitions to the court under the Insolvency Act either requesting a company to be wound up or for an individual to be made bankrupt. The objective of these procedures is to use the impact and sanctions associated with insolvency to extract payment.

They can be very effective with the 'won't pay' debtor, but they are ineffective against the 'can't pay' debtor. They are potentially quicker than court proceedings but far more expensive in terms of court fees and preparation time, especially if contested.

Enforcement of Retention of Title clauses

Retention of Title (RoT) clauses allow a supplier to retain ownership over goods supplied until they have been paid for.

Having the RoT provision in place means you might be able to recover the goods, or their value, and so provides a form of additional protection against customer insolvency or inability to pay.

Acting to recover goods is advisable if you receive notice that your customer is contemplating insolvency and there are debts outstanding. Usually, recovery of goods under the RoT clause is consensual, with the supplier being allowed access to the customer's premises. Forced entry should not be used, as it could result in civil or criminal action.

For those cases where relationships have broken down and access is denied, or there is suspicion that goods will be moved and disposed of, legal advice and support should be obtained. It may be necessary to get an injunction to enforce recovery and protect a supplier's rights.

Dealing with the insolvency practitioner

Increased pressured upon debtors will often lead to a significant proportion turning to insolvency practitioners for assistance, either with the intention of avoiding insolvency, or mitigating its effect.

Company Voluntary Arrangements (CVAs) and Individual Voluntary Arrangements (IVAs) can be used as defensive strategies by companies or individuals faced with the threat of insolvency.

Usually these involve agreements to pay off a proportion - or even the entire - liability, but over an extended period of time. CVAs and IVAs require approval from creditors before they can be implemented. Unfortunately, they have a high failure rate. They are often a precursor to liquidation or bankruptcy.

Companies may also be advised to enter into administration to avoid liquidation, or in order to protect the company and its assets. By entering into administration creditors' rights of enforcement are suspended until the administration is approved. Once approved, the rights of creditors are then subject to its terms. As unsecured creditors, ordinary invoice debtors are very unlikely to obtain payment in full.

The appointment of receivers over a company or an asset may be taken as a step for recovery by some lenders. However, receiverships are now less common than administrations.

What does this mean?

Now, more than ever, any accounts receivable ledger, especially if containing exposure to small business customers, will need assertive credit management to ensure that book debt converts to cash and not bad debt.

In the event of customer insolvency, the likelihood of cash recovery is remote. Current statistics from the Insolvency Service indicate that recovery of invoice based debt occurs in only 25% of insolvent situations, with average recovery of only a few pence in the £.

Our experience shows that clients taking an early and more forceful approach to recovery are succeeding in making collections.

What should you do?

• consider whether your pre-contract documentation or procedures need updating or amending to make them more effective
• if you suspect a problem with payment it is important to act without delay
• if in any doubt about the options, seek early advice