Under pressure: Signs of small business financial distress
Welcome to CPA Australia's With Interest podcast, bringing you this week's need to know information for businesses and accounting professionals.
Hello, and welcome to CPA Australia's With Interest podcast. I'm Gavan Ord, senior manager, business and investment policy, with CPA Australia. I'm joined by CPA Australia's manager of public practise and SME, Kristen Beadle. Kristen is also a former registered liquidator. Great to have you on the show.
Hi, Gavan. Great to be here.
Today, we'll be discussing some of the issues SMEs are currently facing and how business can respond when in financial difficulty. So getting right into it, Kristen, what are you seeing and hearing as the main challenges SMEs are currently facing?
Well, Gavan, where to start. There's a lot of stresses in the economy at the moment, and what businesses are seeing is a increase due to inflationary pressure, supply chain risks and labour shortages. And with labour shortages, that might also lead to increases in costs of wages. So, we're seeing pressures on supply and pressures on getting the job done. With those increases in inflation, we're also seeing an increase in interest rates and that might in turn lead to a tightening in consumer spending. So we're going to see input costs on businesses, but then also a reduction in those discretionary spends of the consumer. So ultimately all of this will impact the bottom line.
But it goes on. So we're also seeing obviously the government support packages that were implemented during COVID have now ceased and now the rent deferral and tax payments that were allowed during COVID, during 2020 and 2021, are now becoming due and payable. So we've got all of these pressures now, on the bottom line. And as one of my old mentors used to say, cash is king, and if you haven't got the cash there to spend and to cover these costs, you might see yourself in a little bit of trouble.
Well that's quite a long list of issues, challenges at the moment. Two years ago, we were focused on COVID, now we've got even bigger list of issues to deal with. So, what impact are you seeing these challenges have on insolvency in Australia?
Well, we're definitely hearing from members in the insolvency space that inquiries to insolvency practitioners or registered liquidators are up. And so, at the moment, it's not translating to mass insolvency appointments, certainly not the tsunami that was the concern in 2020. But we are seeing appointments going ahead now, and we're getting close to that pre-COVID 2020 level, which is up to where it was this time last year, for example. But that was because of changes in legislation, moratoriums, et cetera. So the numbers are considerably down on peak. So, I don't want to make it all doom and gloom, but we're certainly getting back to increases in appointments, which is being seen in certain industries, and that, that's really standing out at the moment is the construction industry, and not just the builders. It's flowing down the value chain to those ancillary businesses in it as well.
So I think that's not a surprise though, given what we've spoken about around the disruptions in the supply chain and labour and the labour issues. I don't think it's a big surprise, but I don't think it'll stop there, Gavan. I think we'll see other industries get affected as well. And you might see something like transportation. They might be locked into contracts with their clients, have pricing contracts, but they're going to face significant price increases such as the price of petrol with what it is at the moment.
And you spoke about an increase in inquiries from insolvency practitioners. Are there any actions by regulators, such as the ATO or banks that are influencing that increase in number of inquiries?
Well, I think so, Gavan, I think this is where it's going to be interesting now and going forward. So, you might recall the ATO was the largest creditor in most court windups in Australia. And since COVID, and those moratoriums I mentioned earlier, the ATO pretty much all but ceased their court actions. But, in that time, businesses were still racking up debt. So, there's significant debt to be collected by the ATO. So, our listeners might have seen in the media lately that the ATO has started using director penalty notices as part of its collection process. It does have other means available to it, but I think the DPN is something that it will be relying on heavily.
And you might have seen in the last couple of weeks or so, the ATO has also started reporting debts above a hundred thousand dollars to the credit reporting bureaus. And this is ultimately going to affect how businesses deal with each other, I think, because traditionally in the past, there hasn't been that visibility of ATO debt when you're doing your due diligence on a business. So I think that's where this is going to be interesting.
Banks don't do a lot in the insolvency space publicly. So, members are telling us that certain clients might have difficulty in their refinancing. So, it's a little bit of let's wait and see what happens in this particular space particular with the increase in interest rates.
And you mentioned about the ATO reporting large debts to credit reporting bureaus. So is a tip for businesses out there, trade creditors, well businesses to actually, maybe go back and look at the credit rating of some of their larger customers, just to see whether they are carrying large ATO debts?
I think that would be wise. I mean, you should always know who you're going into business with, frankly, but yeah, I think it's now time. Now that the data's available, you should use it. And I know banks ask for that information because it wasn't publicly available beforehand, but if you're trading with a creditor and you've left yourself exposed, you really need to know who you're dealing with, and I think it'd be some sound business to go out and understand who you're dealing with.
You spoke before about the challenges, and obviously, the challenge at the moment is around all of the margin pressures that businesses are under due to increasing costs. From your experience, what are some of the early signs of business distress?
It's pretty well established in insolvency and I'll list some of them generally now. Have a look at the ageing of your creditor days, and are they drifting outside of your trading terms? Are your creditors making rounded payments to you that you can't really reconcile back to invoices? Are people not returning your calls? Normally creditors or your debtors will try to evade speaking to you. Has your business lost a key customer recently that forms a major part of your business? Are you struggling to access finance or refinance from your lenders?
If our listeners are an external accountant, is your client not answering your phone calls or emails? Suppliers moving you to cash on delivery. They're quite some simple things, but also too, are you chasing new work to pay and complete your old work? Are you struggling to pay your employees and rent? Have you got mounting superannuation debt? Is the owner of the business always injecting their own money into the business? And are you using GST collections and other debts and other taxes to help you pay off your debt? I could go into ratios, et cetera, but just generally they're some good ones to start with.
Yeah. And if you are an accountant, and if you see these sort of signs of distress, how do you recommend that they raise these issues with their client or their business owner?
Unfortunately a lot of these conversations are difficult conversations to have with your clients. And particularly, a lot of accountants have known their clients for a long time, so it's very difficult to deliver news such as this. But having said that, I can't stress enough, how important it is to seek advice early, if there is financial distress. So, now would be the time to do it. If you're around that pre 30 June time where you're sitting down and assessing your client's complete financial position, it'd be time to have these conversations now, I think. But it's a constant conversation as well. So, how do you do it? We're reaching the end of the financial year. There'll be solvency minutes to execute. If you can't do that, you now really need to have a think about the longevity of the company or the business. So I think though the key is, raising concerns early, gives the business more options. And I think that's the key here.
Yeah. And I suppose it might be a hard conversation to have, but probably the harder conversation to have is when you say actually you've run out of money.
Yeah. That's exactly right. So, those small things that you might be able to implement now is something that might actually stop a terminal wind up as it were. So get in early.
And we're speaking about getting in early, so what options are available for a business in financial difficulty?
Depending on where you're at in the timeline, I guess, in terms of how far down the road, but there's always formal and informal options. And I think, that's why I'm stressing if you're getting in early, because you might not need a liquidation as it were. You might be able to do some sort of restructuring to help that business trade on. And then if you can do that, so go to an appropriately qualified advisor and talk about these options. So, you might want to look at selling the business or restructuring it, depending on what's in front of you. If there is financial difficulty, but ultimately you think, if we make a couple of changes here and there, we might be able to trade through this.
You've got a plan and you've ticked all the boxes. You might be able to enter what's called safe harbour, which puts together a plan of attack. So the directors don't need to concern themselves about trading the company whilst insolvent, should it end up in liquidation, so you can try and get through that. But ultimately, if you can't do that, there are formal alternatives such as the small business restructure administration or liquidation, which will need a registered liquidator to help you with. We do have information on our website on that, if people want to read further about what they are in a bit more specifics.
And you mentioned the importance of speaking to somebody who's registered, so don't just go to anybody. Speak to somebody who's a registered liquidator.
In these situations, what should accountant be wary of? Could they go too far in helping the company with advice?
Yeah, absolutely. So, as an accountant, you'd want to make sure that you're pointing your clients to regulated professionals one, because usually if the advice is too good to be true, it usually is. And ultimately it'll probably cost your client more than a liquidator. But also too, be careful not to overstep your bounds. I mean, if you're a tax accountant, you're not expected to understand insolvency and that's fine. You're not the specialist. It's a highly regulated, highly specialised area. So, there's reason why people do it and have to maintain the amount of training, et cetera, that they do to do that. So I think it's important that you know the limit on how much you can help. Don't start providing advice around, oh, well, just start a new business or doing the same thing. That's where you'll get yourself into trouble.
So you've got a problem. The liquidator is there to, yes, there's statutory obligations that he or she might have to undertake, but they are there ultimately to get the best outcome for all stakeholders. So, go to them and get their advice. But also, as an external accountant to that business, don't step in and act like you are an officer of that particular company, right? Don't go in, don't set yourselves up as signatures on bank accounts, or sitting on director board meetings, those kind of things. Because if you haven't got something in place, which clearly sets out what you're doing, you run the risk of being deemed a shadow director. And then you can be caught up in the investigations of a liquidator and potentially even open yourself up to civil and criminal liability.
And you told me before that if the company has D&O, director and officer liability insurance, it wouldn't cover shadow directors.
No, no. So, on those, you need to be very careful about what you're doing because those insurances are usually taken out by the company.
And finally, what we often hear is that people see insolvency as a bad word that you have to avoid. From your experience, what positives have you seen come out of insolvency?
This is a big bug bear of mine, Gavan, because I really like us to see us get out of that mindset of insolvency being a bad thing. Some businesses don't succeed, and through no fault of their own. And a formal external administration provides opportunity to rationalise the business and remove areas or project lines or whatever, that just are obsolete. It gives you the opportunity to review, who key employees and suppliers are, who your customers are, where you're making money, but ultimately it draws that line in the sand and provides an opportunity on salvaging parts of a business that work and really work well.
Well, that's all we've got time for today. I'd like to thank our guest, Kristen Beadle, for joining us, and the fantastic insights and tips she has shared with us today. If you've enjoyed this episode, we'd love to have you as a regular listener. With Interest is a weekly podcast, bringing you current developments, affecting businesses and the accounting profession. You can download episodes of With Interest on all major podcast apps. If you've got a question about CPA Australia and the policy advocacy work we do on your behalf or topics you'd like to see discussed on this show, please email us at [email protected].
From all of us here at CPA Australia, thanks for listening.
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About this episode
Small businesses face a smorgasbord of challenges, from increased inflationary pressures to supply chain risks and labour shortages. These challenges are currently putting the squeeze on many small businesses. As if that weren’t enough, higher interest rates can lead to a tightening of consumer spending.
In short, higher input costs + lower consumer discretionary spending = big impact on SME’s bottom lines.
Government support packages implemented during COVID are running out, while rent deferral and tax payments that were allowed during 2020-21 are becoming due and payable.
If cash is king and you haven’t got it, where do you go from here? In this episode you’ll learn about:
- The challenges small businesses currently face
- The impact of those challenges on insolvency numbers
- What actions banks and the ATO are taking
- How to have difficult client conversations
- Options available to businesses in financial difficulty
- How accountants can support their clients
- The upside of insolvency.
Host: Gavan Ord, Senior Manager Business and Investment Policy, CPA Australia
Guest: Kristen Beadle, Manager Public Practice and SME, CPA Australia
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