Are you a Steady Eddy or a Risky Rupert when protecting your business from harm? How good are you at addressing risks to your business before they turn into trouble? Take this simple test and judge for yourself.
Ever Hopeful Limited, a UK-based software social-gaming company, works with a leading online sales agency, Smooth Talker, which makes its games available through online gaming sites. The sales agency collects revenues from the sales and accounts to Ever Hopeful once every quarter for accumulated sales, after deducting its own commission.
Initially the arrangement works well — especially as the person who runs Smooth Talker is an old friend of Roger Branston, the Ever Hopeful chief executive officer (CEO). But now Smooth Talker has defaulted on its latest payment to Ever Hopeful. The default causes a problem, because it owes Ever Hopeful 30,000 pounds for sales made in the previous quarter and Ever Hopeful had budgeted to use that amount to pay wages, a Value-Added Tax (VAT) bill and bank interest on its current loan. Now Ever Hopeful is being chased by its staff and the VAT inspector for payment, and the bank has called in a 20,000 pound loan as a result of failure to pay the interest on time.
Smooth Talker has promised to pay Ever Hopeful ahead of other creditors given the relationship between its owner and Roger, and so that has reassured Ever Hopeful. Roger is a bit nervous, however, because the bank loan is backed up by a personal guarantee from him.
What could Ever Hopeful or Roger Branston have done to avoid ending up in this position?
Carry out credit checks on new customers to make sure that they're creditworthy — even if the customer organisation is run by a friend.
As part of this analysis, find out whether you're dealing with a partnership, a limited company or a sole trader.
The latter are potentially personally liable for their debts but are often considered less creditworthy than companies or partnerships.
Get your customers to agree to Terms and Conditions that protect you.
In this case, an upfront payment to Ever Hopeful against future sales would have been useful; or perhaps a cap on the amount of credit Smooth Talker was allowed to run up in any one quarter, as well as interest on late payments as a deterrent against non-payment.
Ever Hopeful could've discounted or factored its invoice to Smooth Talker before the latter ran into trouble.
This action would've been a good way of minimising its risk, because Ever Hopeful would already have received the bulk of what was due on the invoice from the discounting or factoring firm. (In that case, the money invoice discounter would initially be responsible for collection of the monies, and if Ever Hopeful used a 'non-recourse' factorer it would no longer be responsible for collection of the monies if Smooth Talker defaulted.)
Ever Hopeful could take steps to put financial pressure on Smooth Talker — issuing a statutory demand for the debt, initiating a compulsory liquidation or starting a process of administration.
Don't rely on the agreement with Smooth Talker to pay back Ever Hopeful ahead of other creditors.
This kind of 'preference' for one creditor over another isn't lawful.
Roger could've avoided giving a personal guarantee in respect of the bank loan to Ever Hopeful; at least then he wouldn't be personally liable for the repayment of the loan.