How to reduce risk and avoid business failure

When cashflow takes a hit, small businesses often can’t continue operating for very long, so it’s important to act quickly. There are four important risk-reducing steps businesses can take to reduce the chance of business failure.

  1. Reduce risk as a supplier

Spread the risk by having as many customers as possible. If the business depends on a few customers, it only takes one to not pay for cashflow to suffer. So it’s important to understand their payment history and enter a formal credit agreement, preferably with a personal guarantee from the business owner. It’s also worth limiting credit for customers who don’t pay within the invoice terms: consistently late payments can be a red flag that payments may stop altogether.

Business owners should also register interests with the Personal Property Securities Register (PPSR), which is the only way to recover goods if a customer’s business fails.

  1. Reduce risk as a customer

Businesses should choose suppliers with a strong history of delivering consistently, and should identify possible alternative suppliers in case the original suppliers can’t deliver or go out of business. This minimises the risk that the business will be unable to operate because it can’t get the goods and services it needs.

  1. Reduce personal risk as a guarantor

Business owners should avoid guaranteeing the debts of anyone else, and should only agree to be a director of a company if they intend to participate fully in all decision-making processes, because directors can be personally liable for company debts and ignorance is no defence. Written agreements are essential in all cases, even if doing business with family members.

  1. Reduce risk as a business owner

Well-informed, engaged business owners can avoid potentially losing personal assets by arming themselves with full knowledge and awareness of all company activities, especially regarding the accounts. This includes reading the fine print before agreeing to credit arrangements.

Business owners must keep accounts updated and query any abnormalities. They need to be aware of factors such as the availability of working capital, alternative finance sources and emergency plans if customers fail to pay, and whether all payment obligations are up to date, including promptly lodging all tax statements and payments. Understanding the business’s financial obligations includes being aware of any off-balance sheet obligations such as long-term property leases.

Company directors, including small-business owners, have a clear obligation to be aware of the company’s financial circumstances and are liable to insolvent trading claims by liquidators. Knowledge is power, because there are usually plenty of warning signs that a small business could be on the brink of failure. Sheer bad luck can contribute but, with so many ways to protect against the risks of insolvency, business owners need to stay informed. Identifying the warning signs early and acting fast can mean the difference between going out of business or continuing to grow and thrive in the long term.

Business owners who aren’t sure where to start should get advice from a trusted professional sooner rather than later. A business advisor, accountant, or solicitor will be able to provide specific advice that relates to the business’s unique circumstances.

Frank Lo Pilato, Partner of Restructuring & Recovery and Managing Partner, Canberra, RSM Australia

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