Many of us can recall instances where concerns about a trading partner eventually resulted in an actual event of insolvency.

Furthermore, as practitioners, we’re familiar with the common ‘signs’ that are indicative of a business in distress. These warning signs, outlined in Table 1, can range from fundamental to potentially fatal, depending on the severity of the indicators in question.

Early detection is key.  Additionally, some indicators may remain hidden unless policies, procedures, or terms and conditions specifically address the types of issues present.

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Table 1 – Key warning signs of insolvency

• Continuing losses, cost increases or margin loss
• Tight cashflow or low working capital
• Lack of detailed forecasting, having no strategy or business plan
• Incomplete financial records
• Poor internal governance, policies, or procedures
• Problems selling stock or collecting debts
• Deteriorating balance sheet
• Solicitors’ letters, demands, summonses, judgements, or warrants issued
• Suppliers placing the company on cash-on-delivery terms or restrictions
• Payments to creditors of rounded sums that are not specific invoices
• Overdraft limit reached or defaults on loan or interest payments
• Changes in key relationships or key personnel
• Overdue taxes and superannuation liabilities
• Increased level of complaints or queries raised (including on-line discussions)
• Presence of disputes or court proceedings

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Given the current economic conditions, it is crucial that we carefully evaluate current business practices as they relate to the risk of insolvency.

By utilising the core functional areas within a business – risk and governance, people, market and industry, and operations, it enables better alignment with strategic reviews, business planning, and stress testing initiatives.

I’ve identified the top three observations across each core functional area that should be assessed to safeguard value or minimise losses for your business.

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Risk and governance (including policy and financial governance)

Credit policy and processes

Assess whether your terms and conditions accurately reflect your desired goals and protection measures. This involves considering aspects such as Personal Property Security Registration (PPSR), triggers for monitoring adverse events, mechanisms for fraud detection (including communication and review capabilities), and when it may be necessary to seek external support.

Communication

Evaluate your ability to communicate promptly with trading partners when concerns arise. Review your policies and procedures to determine if they enable you to assess margins and amend contractual positions, as necessary.

Risk monitoring

Ensure you have the means to monitor warning signs effectively. Establish an action plan with your trading partners, which may include ongoing communication and how they intend to resolve any concerns identified.

By addressing these considerations within your risk and governance framework, you can better protect your business’s value and mitigate potential losses.

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People

Training

Assess whether you and your team are adequately informed about potential early warning signs. It is crucial to ensure that everyone involved understands the indicators that may signal risks or issues. Regular training sessions can help enhance awareness and enable proactive identification of warning signs.

Communication

Evaluate your ability to ask the right questions to gain a thorough understanding of symptoms or potential problems. Effective communication skills are essential in extracting relevant information from stakeholders, partners, or colleagues. This helps in recognising early warning signs and taking appropriate actions.

Connectivity

Determine whether your different business areas have sufficient connectivity and collaboration mechanisms in place. It is important to foster a culture of information sharing, understanding, and joint response across different departments within your organisation. This ensures that valuable insights and relevant information are effectively communicated and addressed collectively.

By focusing on these areas within the people aspect of your business, you can strengthen your ability to identify and respond to early warning signs, fostering a proactive and collaborative approach to risk management.

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Market and industry

Indicators

Evaluate whether you have access to relevant information or data that allows you to monitor market movements, regulatory changes, and feedback from staff regarding customer interactions. This data can help you form a comprehensive view of potential risks and identify early warning signs. Being proactive in gathering and analysing such information enables you to stay ahead of emerging challenges.

Planning

Incorporate regular risk assessments as part of your business-as-usual activities. By scheduling these assessments and leveraging data from all business functions, you can effectively identify and mitigate potential risks. Aligning risk assessment with your overall business planning ensures that risk management becomes an integral part of your strategic decision-making processes.

Implementing

Develop strategies to respond quickly to market, regulatory, and industry changes. Determine how quickly you can adjust financial parameters, if needed, in collaboration with your trading partners. Establishing clear channels of communication and mechanisms for efficient decision-making enables you to respond to potential changes. This agility ensures that your business remains resilient and responsive to evolving market conditions.

By better understanding your market and the industry in which you operate, you can better enhance your ability to proactively assess and respond to risks, capitalise on opportunities, and maintain a competitive edge in a dynamic business environment.

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Operations

Connectivity

Evaluate whether you have a risk function integrated within your sales or site teams, that can enable more effective communication. With this type of monitoring, any concerns related to trading partner issues can be identified and actioned earlier. This connectivity facilitates timely information sharing and ensures that potential risks are addressed promptly.

Escalation

Consider how you would manage concerns or issues with your trading partners. Develop an approach that considers different scenarios such as loss of staff, mental health challenges, supply chain issues, or succession stress. Tailor your approach to each situation and establish clear escalation protocols and communication channels to address concerns and mitigate risks in a timely and efficient manner.

Causality

Determine how you incorporate the learnings from operational issues into your planning process. In the current environment, it is crucial to capture and integrate these learnings in real-time. By identifying areas for improvement, and proactively incorporating them into your planning and risk mitigation strategies allows for continuous improvement and enhances your ability to adapt to changes more effectively.

By addressing these aspects within your operational framework, you can enhance connectivity, streamline escalation procedures, and integrate learnings into your planning process. This promotes proactive risk management, strengthens operational resilience, and enables your business to navigate challenges more effectively.

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What if one of your trading partners becomes insolvent?

While proactive measures and responsive actions are crucial in protecting your business from potential issues, it is important to acknowledge that certain circumstances arise that are beyond your control, such as loss of connectivity, ad hoc communication, pre-meditated behaviours, fraud, or significant financial and market changes, which can lead to a business becoming at risk of insolvency. The severity and nature of the insolvency will vary, but there are steps you can take to minimise potential losses.

• Prioritise effective cost management and closely monitor scope changes before committing to additional work. By addressing potential cost overruns and managing scope changes proactively, you can avoid worsening financial strain.
• Review your PPSR and security documentation and determine appropriate actions. Communicate your position promptly to relevant stakeholders, ensuring clarity and transparency.
• Evaluate whether pursuing legal or recovery actions is worthwhile. Assess the potential benefits and risks associated with initiating legal proceedings to protect your interests.
• Engage the expertise of a qualified advisor, preferably a registered practitioner, to review restructuring plans, voluntary administration reports, proposed Deeds of Company Arrangement, or liquidators’ reports. Their insights can help you make informed decisions based on your specific circumstances. The earlier you get advice, the more options you will have, which is the same for the insolvent trading partner.
• Beware of illegal phoenixing advice from unregistered advisors or discussions which allude to informal restructures.
• Where relevant, examine other exposures within your portfolio that may face similar challenges, such as geographical risks or shared events. Assessing these exposures simultaneously allows for a comprehensive understanding of potential risks and informs your risk mitigation strategies.

By implementing these steps, you can minimise potential losses in the event of insolvency. It is essential to stay vigilant, seek professional guidance when necessary, and adapt your risk management approach based on the specific circumstances you face.