Regain control of your finances and uncover new avenues for growth by consulting with one of our accountants. We provide expert guidance to help businesses stay on track and avoid financial setbacks, including insolvency and bankruptcy. Our personalised service is tailored to each client’s unique situation, ensuring you receive the support you need to achieve your financial goals. Trading at a loss is not a sustainable option for business success. To protect your business and ensure its continued operation, it’s crucial to understand the intricacies of insolvent trading.
WHAT IS INSOLVENT TRADING?
Insolvent trading occurs when directors knowingly allow their company to continue trading and incurring debts while the company is unable to pay its debts as they fall due. This means that the company is insolvent and its assets are not sufficient to cover its liabilities. If the company subsequently enters liquidation, the liquidator may pursue compensation claims against directors who were involved in insolvent trading. These claims may hold directors personally liable for the unpaid debts incurred during the period of insolvency.
To avoid personal liability, directors must exercise due diligence and ensure that the company has a reasonable prospect of avoiding liquidation. This requires directors to regularly assess the company’s financial position and take proactive measures to address any signs of financial distress. Failure to do so could result in personal liability for the company’s debts.
WHEN IS A COMPANY INSOLVENT?
A company is insolvent when it cannot pay its debts as and when they become due and payable. The Corporations Act defines solvency and insolvency as:
Section 95A — Solvency and Insolvency
(1) A person is solvent if, and only if, the person is able to pay all the person’s debts, as and when they become due and payable.
(2) A person who is not solvent is insolvent. A person is defined to include a corporation.
IS INSOLVENT TRADING AN OFFENCE?
Yes. Insolvent trading is an offence and can be referred to ASIC for further investigation and possible criminal prosecution. Directors should seek legal advice. Section 588G (Director’s duty to prevent insolvent trading by company) stipulates:
(3) A person commits an offence if:
(a) the person is a director of the company when it incurs a debt; and
(b) the company is insolvent at that time, or becomes insolvent by incurring that debt, or by incurring at that time debts including that debt; and
(c) the person suspected at the time when the company incurred the debt that the company was insolvent or would become insolvent as a result of incurring that debt or other debts (as in paragraph (1)(b); and
(d) the person’s failure to prevent the company incurring the debt was dishonest.
CAN DIRECTORS BE LIABLE FOR COMPANY DEBTS?
Yes, the areas of potential liability are:
- Insolvent trading compensation claims
- Unreasonable director-related transactions
- Loss of employee entitlement claims
- PAYG taxation debts and superannuation contributions
- Personal guarantees.
How we can help if you need assistance for business rebound? With our comprehensive plan, we get things on track. Some of the areas are;
STRATEGIC FINANCIAL TASKS CHECKLIST
TASK
REGULARITY
Set targets for financial performance
At least annually
Possible actions:
- Consider where you want your business to be in the next year and beyond, and set targets in line with that.
- Incorporate these targets into your strategic plan, key performance indicators and budgets.
- To help set targets for performance, look at how other businesses in your industry perform through industry benchmarks. You can get some basic industry benchmarks through www.ato.gov.au or your CPA may be able to help you get access to more detailed industry averages.
- Review financial targets against your strategic plan and operational budgets at least quarterly.
- Alter targets where market or other circumstances dictate.
- Consider incorporating non-financial activities in targets, for example measures of throughput, number of sales calls etc.
Review and analyse financial statements
At least annually, preferably quarterly or monthly
Possible actions:
- Compare key ratios from your financial statements, such as working capital ratio, stock turnover ratio or profit per employee to averages in your industry.
- Compare performance against financial targets and past performance.
Review actual performance against budget
Monthly
Possible actions:
- Ask yourself what caused any gap between budget and actual?
- Consider how best to overcome any problem.
Undertake sensitivity analysis
Annually
Possible actions:
- Ask yourself, what if sales dropped 15 or 20 per cent? Or you lost a major customer? Or a major supplier stopped selling to you? What if your best sales staff resigned? Factor answers to such questions into your budget forecasts and risk management strategies.
Set sales or production targets
Ongoing
Possible actions:
- Undertake a break-even analysis to determine what you need to sell before you make a profit.
Prepare profit and loss budget
Annually
Possible actions:
- Make sure your budget reflects your strategic and financial targets.
- Incorporate key findings from your review of your last budget, sensitivity analysis and the break-even analysis.
- Ensure that budget estimates are realistic and have not been “massaged” to fit a desired result.
Prepare cash flow forecast
At least annually
Possible actions:
- Have your cash flow forecast show the projected cash flows for each month in the 12 month period.
- Address any future cash shortages through increasing cash sales, collecting outstanding debts, reducing expenses or through external finance (such as an overdraft facility).
- If you decide to seek external finance for any purpose, go to your lender as soon as possible.
Review and update cash flow forecast in light of actual results
Monthly
Possible actions:
- Update cash flow forecast to reflect actual events and monitor ongoing cash position.
Review interest rates and conditions on your loans
Annually
Possible actions:
- Look at what other lenders are offering and consider whether you should switch lenders.
- If considering switching, consider the terms other lenders can offer, not just the interest rate.
Provide financial statements and budgets to lenders
Annually
Comply with repayment schedules
Ongoing
Review debt covenants/terms and conditions
Ongoing
Possible actions:
- Notify your bank immediately if you are in breach of a covenant.
- If you are uncertain of your covenants, read your loan agreement or ask your bank.
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