Neglected debtor ledger an invitation to disaster
A cavalier approach to debtor ledger maintenance can invite disaster at the best of times, but the corona virus crisis ranks high among the worst of times where neglect of this ledger could not just invite disaster but cause it.
An inaccurate debtor ledger destroys the credibility of a balance sheet and in many instances can propel a business to the brink of insolvency.
In coming months as government cash flow support is systematically withdrawn, banks will be looking ever more closely at whether customers’ businesses can or cannot service loans. A realistic up-to-date figure for collectable debts in a credible balance sheet will be essential for a favourable assessment.
Irrespective of whether or not your business carries a bank loan you need to ensure the debtor ledger is worth what you believe, that it’s a reliable source of money to divert into cash flow as required.
The ledger’s significance
Given that debtors often represent a substantial part of a business’s assets, Macks Advisory is astonished at how frequently businesses’ debtor ledgers don’t accurately record recoverable money.
It’s a dangerous position for a business to be in, especially now. Many businesses are surviving to varying degrees during the COVID-19 crisis because of extension of so-called “safe harbour” protections from insolvent trading and a moratorium on creditors’ ability to force a company into liquidation.
Directors’ personal responsibility for company liabilities have not been suspended and should their company collapse, they remain responsible for such things as personal guarantees, breaches of directors’ duties and matters under the Australian Taxation Office’s (ATO’s) director penalty notice (DPN) regime.
Avoiding the financial disaster likely to be precipitated by failure to maintain a viable debtor ledger should be undertaken in two phases.
Phase one: the review
It’s not unusual to see ledgers where debtors continue to be listed 12, even 18 months after invoices should have been paid. Keep a record of such debtors if you wish, but not in a debtor ledger you’re trying to create that is a realistic representation of recoverable money.
There should also be no place in the ledger for fictitious accounts/false invoices/debtors titled “cash”, or for mysterious debtor-loan accounts (record of which appears at the end of a financial year only to disappear a few days later).
It’s no good recording in the ledger loans by the business to family or friends when it’s never realistically expected they’ll ever be repaid.
Work in progress isn’t a debt. Prepaid customers shouldn’t be shown as debtors, nor should factored debtors (which are debts no longer the business’s to recover).
Debts that are being disputed or that are not subjects of a structured recovery process shouldn’t be recorded in a debtor ledger.
Phase two: turning the ledger into cash
Consideration of, and action on, what follows can pay off with money in the bank.
It’s pointless having terms of trade on invoices if they’re not to be enforced. Stopping supply of goods and services to late payers, or requiring cash on delivery, can aid enforcement.
Customers should be aware from the outset you won’t take kindly to late payers. At the first sign of a customer failing to meet trading conditions, nip this behaviour in the bud (personally is best) and be prepared to follow up with persistence, persistence and persistence.
If you’re inclined to extend terms for a customer, seek security or a personal guarantee.
Offering debtors options for clearing a debt – for example, a payment plan or a settlement arrangement that might include a discount -- is more cost effective than litigation or liquidation. Litigation may be necessary against debtors who default on a payment arrangement but often mere indication of impending litigation will trigger debt repayment.
Also consider the cost of debt factoring/trade finance relative to how pressing may be the need to sell your debtor ledger immediately to boost cash flow. Alternatively as a back up to these considerations or to ease worry about a debtor’s credibility you may care to talk to your insurer/broker about options for mitigating the risk
Moving to bankrupt a debtor or to wind up a debtor’s business should be a last resort. While an insolvency appointment is unlikely to yield you either a speedy or good financial result, application for one could be enough to prompt a debtor wishing to avoid liquidation or bankruptcy to take immediate action that would benefit you more than shutting down the company.
Whether taking any of the discussed options could subsequently lead to problems with a liquidator or bankruptcy trustee as preferential payment issues, need not be of immediate concern. Indeed it’s a concern that may never arise. Nevertheless if you’re worried about the possibility of a debt payment being subject to a preferential payment challenge, then get legal advice.
For now we’re simply pointing out how important a debtor ledger is to the effective running of a business, and that if you are not doing everything possible to ensure your customers are paying you, then it may be you in these tough times who ends up insolvent rather than them.