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Debt collection – An integrated part of the Sales Cycle

There is little point making a sale if you can’t collect the sale proceeds, and therefore it is vital to have an effective credit management methodology that permeates through all phases of the sales cycle. This methodology extends through new client acquisition, ongoing client relationship management and ultimately debt collection.

New Client Acquisition

The first step in credit management is understanding and accepting that risk is a part of any sale on credit terms, and therefore the Director’s risk appetite must be reflected in the credit policies of the business. Low-risk appetite will result in tight and stringent credit terms and higher risk appetite will result in more relaxed and fluid credit terms.

The first phase of credit management starts with adequate identification of the client, their trading structure and all appropriate contact details. This information needs to be gathered in a credit application that will outline all of the key terms of trade that will apply to dealings going forward.

A comprehensive credit application will enable effective credit decisions to be made, due diligence conducted and appropriate credit limits set. Be cautious to ensure the entity you are about to commence trading with will be a profitable client, rather than a problem client who may be switching suppliers to you because of past debt problems.

Taking appropriate securities may include incorporating retention of title terms with Personal Property Securities Register registrations, late payment interest charges and personal guarantees. All of these require precise documentation to be prepared to support the terms, and this is the job of an experienced lawyer to assist the business.

Ongoing Client Relationship

The second phase involves creating a sale transaction that is correctly documented, fully supported, accurately priced and with terms clearly denoted.

Invoicing should be done swiftly after the sale is made and be accurate.

Any disputes or account follow-up questions should be swiftly resolved to avoid the problem escalating or being ignored.

The accurate recording of payments received is also important to the debt collection process. Payments should be allocated to specific invoices rather than simply generally crediting the account, or being applied to the oldest invoice. It is with these latter processes that problems with invoices in dispute can be masked and not addressed until they become problematic.

Debt Collection

The third phase is the collection process.

Issuing statements regularly is vital, as is following up disputes with customers.

In the event that repayment plans are required, make sure to re-set credit limits and obtain evidence of capacity that the payment plan can be maintained. Having a customer repaying debts over time is much better than a customer not paying at all, but there must be confidence that the repayment plan can be met.

Communication with overdue debtors needs to be regular and started early after a payment has not been made on time. Delaying and waiting to ask for payment is giving time for other suppliers to slip in front of you in the priority listing.

Debt collection should be professional and repayment terms agreed in writing. Excuses are a common feature of slow playing debtors, but collecting accounts receivable is all about engendering action from the debtor through communication and negotiation.

Refer defaulting debtors who fail to keep commitments or make reasonable efforts to negotiate payment terms to formal collection agencies or lawyers sooner than later. Allowing debts to become long overdue is not helpful to the debtor, nor the creditor waiting to receive payment.

Setting aside pre-liquidation transactions

Most readers will be aware of the power of a liquidator to seek to have set aside a payment made to a creditor in the six month period prior to liquidation as an unfair preference; however, this is just one of numerous pre-liquidation transactions that liquidators can investigate and recover.

Such transactions can extend past six-months, to periods ranging from two years, four years, ten years and indefinitely, given the nature of the transaction.

We discuss some of the lesser known pre-liquidation voidable transactions below.

Uncommercial transactions

This is a transaction that a reasonable person in the company’s circumstances would not have entered into, having regard to the relevant benefits and detriments of entering into the transaction. Commonly these transactions involve asset sales at undervalue and they have timeframes ranging from two years through to four years if the transaction is with a related party.

Unfair loans

For a loan to be unfair, it is one where the interest on the loan was extortionate or has become extortionate, or where charges in relation to the loan are extortionate. An unfair loan can be made voidable at any stage before the winding up occurred.

Unreasonable Director related transactions

Where a director, or a close associate, has received the benefit of a transaction with the company in circumstances where there are detriments to the company, the transaction can be made void if it occurred in the four-year period prior to liquidation. The hallmark of such a transaction is that it financially advantages a director or a close associate. Whether it is unreasonable is an objective test i.e. would a reasonable person in the company’s circumstances have entered into the transaction.

Transaction to defeat creditors

A transaction entered into for the purpose of defeating, delaying or interfering with creditors can be made void if entered into within ten years before the winding up. An illustration of such transactions includes selling property at an amount below market value to a related party or agreeing with a related party to pay significantly more for property or services than fair market value.

If you receive a letter from a liquidator seeking to clawback the benefits of a transaction that occurred in the pre-liquidation period, be aware that there are an increasing range of creative defences being argued (in addition to simple statutory defences), so very few liquidator claims should be considered as so compelling as to warrant an immediate concession and payment.

We are happy to review claims received from liquidators in order to help assess the strengths of the claim, strategies and settlement options, and where relevant, direct you to a suitably qualified lawyer who will work with you to protect your interests.

Establishing the restructuring plan in Safe Harbour

There has been much commentary on what needs to be done by directors to qualify for Safe Harbour, and this article focusses on one element of that - establishing the restructuring plan.

Step 1 - Establish the Current Financial Position

Obtain a clear understanding of the current financial position of the company - this involves understanding the age of all creditors that are outstanding, their terms of trade and having a clear view of the current balance sheet and the cash flow needs of the company going forward.

Step 2 - Evaluate Restructuring Options

All restructuring initiatives should be evaluated for achievability and risk, and be clearly documented. The profit and cash flow implications should be estimated, critical assumptions tested and implementation timeframes estimated.

Step 3 - Create a Financial Model

With an understanding of the company’s current financial position and the range of restructuring options, the next step is to assess the ability to afford the costs that are needed to implement the restructuring options considered.

The modelling helps establish what options are most effective, and what can be afforded.

Step 4 – Establish KPI’s

When a restructuring plan has been agreed and documented, the assumptions underpinning the cash flow model describe the performance objectives directors must achieve to remain viable through the restructuring process. These define the performance KPI’s.

Step 5 – Know what success looks like

Through an understanding of the current financial position, the cost of the restructuring implementation, and the benefits that will flow over time, a picture of success can be defined that will enable stakeholders to be informed and motivated to support the success of the organisation.

These five steps, in our view, cover the key implementation risks that can be mitigated by retaining a financial adviser with skills covering solvency, financial modelling and stakeholder engagement, when developing and implementing a restructuring plan.

Should you have any questions regarding Safe Harbour, please contact Andrew Heard of our office.