19 March 2018
It seems like stating the obvious but the earlier you recognise a problem the easier it is to solve. That goes for business as well as many other aspects of life and it is the central message in an advice booklet recently published by the Institute of Chartered Accountants (ICAEW).
The guide explains how to recognise and deal with difficult business situations and lists a number of stages through which an organisation might progress, from growth, then underperformance, leading to distress and crisis. Then, if necessary with help from an insolvency practitioner, crisis management, stabilisation and recovery. Whilst the guide devotes much of its content to explaining the workings and benefits of various insolvency procedures, we would hope that our clients generally have the experience and management information necessary to recognise potential problems before their business reaches the crisis stage.
Surprisingly, perhaps, the first stage is growth. But, as the guide says: ‘The seeds of failure are often planted in good times’. Businesses can sometimes be victims of their own success. I have often seen circumstances where a business is experiencing a surge in orders for its goods but where management has not paused to examine the effects on its supply chain or its cashflow. It is possible to be making profits but to run out of cash, especially where suppliers need to be paid quickly but debtors are allowed too much credit, or where a lot of working capital is tied up in stock and work-in-progress.
Up to date management information is essential, providing timely reports which can be compared to previously-established key performance indicators (KPIs). Businesses sometimes ignore their KPIs at busy times, or their management information is swamped by an unanticipated increase in activity. Regular monitoring of basic KPIs such as debtor days and creditor days will give early indications of an impending cashflow problem, or of dangerous over-trading.
Underperformance can also lead to a crisis. Of course this is a relative term and we are not necessarily talking here about the kind of chronic long-term underperformance that some businesses seem to tolerate for many years. Any dip in performance should be analysed quickly in case it is the sign of a declining trend. A business that has underperformed for a prolonged period will usually be susceptible to any unforeseen change in circumstances which then can lead to distress and crisis. Whilst interest rates remain low, businesses that are highly geared can survive, but higher interest rates, already on the horizon, will push some of them over the edge. Examples of other events that can also bring unexpected disasters are: the loss of a significant customer, the resignation of a key staff-member, the obsolescence of a major product, or the entry of a competitor into the market. A robust business with adequate reserves, well-trained staff, a succession plan, and a diverse product range is likely to survive such events; for an underperforming business any one of these occurrences may prove to be the last straw.
Let us assume the worst. Due to either overtrading, underperformance or just sheer misfortune, your company is in distress. What are the early signs? According to ICAEW there are six of these:
1. A constant problem with cash
When management needs to spend increasing amounts of time monitoring the bank balance, talking to creditors or, worse still, avoiding them.
2. High interest payments
These can be a sign of regularly exceeding credit limits or that financiers are regarding the business as an above-average risk.
3. Defaulting on payments
Frequent late payments of VAT or PAYE are typical of distress and will cause a great deal of damage.
4. Extended debtor or creditor days
5. Falling margins
These are often symptomatic of attempts to accelerate receipts from debtors by offering discounts, or of losing supplier discounts due to late payments. They may also occur as a result of increased competition in the company’s market.
Distress is obviously a problem for the business owners but the atmosphere it generates will also filter down to other team-members, provoking resignations which further compound the problems.
If you recognise these symptoms early enough and seek advice you may well avoid the next stage, crisis (and a consultation with an Insolvency Practitioner.) Preferably, though, you will have in place the KPIs and the management information systems to detect and deal with the issue at the underperformance stage. We are always ready to help in such matters. We like to have successful clients and we have a huge amount of experience to bring to bear on any business problems.
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