Business mentor: Be prepared for when the going gets tough

Q. Recent economic forecasts say business confidence has hit a 17-year low. But should we believe the hype or are we all over-reacting? And if it's true, what can we, as a small business, do about it? Please give me, say, three issues I should be considering for my business if times are going to get tough.

Gareth Hoole, director of corporate recovery services at Staples Rodway, replies:

A. All the signs are there for an economic slow-down. We have recently seen yet another rise in the interest rate, with another widely tipped before the end of the year.

Such rises, coupled with sustained high fuel prices and a housing market that doesn't want to cool down, must have a definite effect on the liquidity of businesses and individual consumers alike.

Measured against a backdrop of a strong kiwi dollar and a remarkably low level of business confidence, there is a genuine air of pessimism about the economic outlook for the next 12 months. In times of economic downturn, insolvency practitioners such as myself and other corporate doctors are kept very busy. To reduce the chances of a "house-call", there are a few defensive strategies businesses should be adopting now.

More than three years have passed since the Personal Property Securities Act (PPSA) became operative. Yet remarkably few businesses have taken advantage of the protective mechanisms offered by that innovative, albeit complicated legislation.

In a recent appointment as liquidators of a large manufacturing concern, there were more than 400 creditors, yet a mere handful had registered security interests on the Personal Property Securities Register (PPSR). If they had they would have afforded themselves an elevated status of priority as claimants in the liquidation.

The unsecured creditors received nothing back in respect of what was owed to them, but those who had perfected security interests on the PPSR did enjoy some form of return on their debt.

Reliance on retention-of-title clauses (the so-called Romalpa clauses) on your sales invoices is no longer adequate. Your terms of trade must be reviewed and you need to be certain that you have taken all reasonable steps to ensure the collection of monies owing to your business.

If your business has not already taken those steps to secure exposure to customers under the PPSA, now is the time to address the situation.

The concepts behind the law are complex but the procedures to register an interest are relatively simple and, although the PPSA is not a panacea for all ills, use of its mechanisms may ensure that you have greater protection as a creditor of a failed business.

There is a business adage that "cash is king" and that saying is perfectly accurate, particularly in times of economic austerity. All too often we have seen businesses fail through negative cashflows, notwithstanding that they are profitable ventures.

Book profits mean little when working capital is committed to debtors and inventory, there is no cash in the bank and the creditors are knocking on the door in search of payment.

Perform accurate cash forecasts, on a short-, medium- and long-term basis to ensure your business will not come up short when you have to meet the payroll or to pay suppliers. The market is seeing a growing intolerance of tardy payers - a sure indication of less liquidity and a symptom of higher interest rates. As a result, we are likely to see costly and potentially detrimental legal action more regularly.

In addressing the cashflow requirements of the business, be reasonable in projecting debtor collections and ensure that inventory is maintained at an optimal level, as over-stocking is a common cause of poor cashflow and can add significantly to the overall cost of capital of the business.

Another common trait of businesses that fail is their tendency to use the Inland Revenue Department as a bank, stalling payments for GST and PAYE to fill the gaps in their cashflows. In a word, don't.

The IRD quite understandably expects payment of those taxes as they fall due and has strengthened their resources in enforcing collections. Penalties and interest on overdue payments escalate at an alarming rate and what may appear at first to be a quick fix to short-term cashflow problems can become a crippling commitment and can scuttle the business.

Most businesses that fail are under-capitalised and it is timely to address present capital availability and future needs, in anticipation of an economic slow-down.

These are just some ideas to consider in anticipation of less favourable trading conditions. Act now and you might alleviate the need to find a cure later.

Remember that even in tough economic times, businesses which are well run, following sound principles of corporate governance and which are properly capitalised, will succeed where others struggle.

* More questions on what your business should be focusing on in tougher times can be directed to Gareth Hoole at Staples Rodway, (09) 309 0463.