We have been asked many times “what are the main causes for business failure”? Our one line answer is simply, “It’s all BAD”:
1. BAD Management
2. BAD Debts
3. BAD Advice
The theorists will tell you that 4 out of 5 businesses will fail in the first 5 years of operation.
1. Bad Management
Bad Management is the major reason for business failure. This can take many forms, including:
- Undercapitalisation from the start;
- “Chasing work”, that is taking on business that is heavily discounted, not cost-effective, with poor paying clients, etc;
- Insufficient or non-existent planning; and
- Lack of appropriate internal controls.
2. Bad Debts
There are no business that extend credit to customers yet have no bad debts. It’s the ways in which management minimises this aspect that separates success and failure.
3. Bad Advice
Management will always look to their advisors should their business fail. They will blame their accountants for their structure, lack of timely reporting and incurring that tax liability. IT’S ALL YOUR FAULT!
A word of warning to all accountants - should any of your clients fail you may be in the firing line!
Areas of concern include:
Structure
Why are there still businesses operating as sole traders or partnerships.
Some will say they are too small to be incorporated. Basically, if they are that small they should not be in business.
For a one off payment of buying a corporate shell and some extra expense for preparation of annual accounts, the cost will outweigh the potential loss of the family home should their business fail.
Case Study 1:
- Husband and wife operate a suburban jewellery shop in partnership.
- Husband decides to open another shop nearby in his own name.
- New business doesn’t trade too well and he wants to close it down.
- Husband is personally liable for rent for the duration of lease.
- He negotiated a settlement with the landlord for payment of six (6) months rent.
- His accountant should have advised him to form a company and trade from that entity, thereby not exposing his partnership or personal wealth.
- The client is considering suing the accountant for not advising him properly.
Large Loan Accounts to Directors
Large loan accounts from directors or shareholders to their company. Accountants should advise their clients to consider creating a registered charge over the assets of the company to secure personal advances made to the company in the event of business failure.
Again there is a one off payment of legal, stamp duty and ASIC lodgment fees but the benefits should the business fail will undoubtedly outweigh the costs.
Case Study 2:
- Wealthy man has a passion for planes.
- Decides to operate an airline in the Northern Territory and lends millions of dollars to the company.
- Accountants advise him to secure his loans by taking a fixed and floating charge over the company’s assets.
- Company incurs substantial losses and requires advice.
- We advised him to appoint an Administrator, rather than a Receiver, in order to preserve tax losses.
- Company is placed into Voluntary Administration and Unsecured Creditors accept a Deed of Company Arrangement.
- He keeps the corporate shell with substantial tax losses to be offset against his future income.
Continued Trading Losses
This is a growing trend. Unfortunately there are grave consequences for accountants.
Consider a manufacturing company that has continued to incur losses and these have been funded by internal sources, say Director/Shareholder Loans; or externally via the Australian Taxation Office and/or Trade Creditors.
The day is going to come when management, the ATO or creditors will commence action against the company’s accountant for not advising their client to address solvency problems or not referring the client to a specialist.
When you are sick you see a doctor - if the doctor cannot cure you or needs assistance he/she sends you to a specialist. It is the same in the corporate world - if your client has a problem and you cannot solve it, refer them to one of our Business Recovery and Insolvency specialists.
