Fighting the undead businesses is no laughing matter, says Paul Taylor

As Britain continues to struggle to get out of a double-dip recession, an increasing number of finance directors are being faced with the same dilemma. A key customer keeps asking for extra time to pay its outstanding invoices.

As a result, this one customer now owes a material part of the supplier’s book debts. The supplier is now so exposed that it is scared to take enforcement action fearing that the customer will go into liquidation and the debt will never be recovered. The finance director may be asking himself: ‘Have I fallen foul of a zombie company?’

What is a zombie company?

So called zombie companies are businesses making little or no profit. They’re kept in business by banks relaxing terms of credit facilities, extensions of credit with suppliers, entering into time-to-pay agreements with HMRC or a combination of all three.

Such companies are only able to defer payments and pay just the interest on their debts, rather than making material payments of the principal itself. The outcome is they accrue so much interest/costs they have very little prospect of ever being able to repay their liabilities.

Banks are reluctant to lend new money, but they’re also showing remarkable levels of forbearance and don’t want to push struggling companies into insolvency. The value of zombie companies’ assets, which have been used to secure the lending, has often materially reduced, and banks would prefer to wait to enforce in hope that the values increase.

Suppliers have also become so exposed to zombies that they cannot afford for them to fail. This has a knock-on effect down the supply chain as each debtor in turn is now deferring payments and spreading the zombie curse.

This is evident in the fact that the number of corporate insolvencies actually fell last year. Merger specialists also report that more companies are exploring opportunities for vertical integration to protect their supply chain.

Recent figures from insolvency specialists R3 show that there are 146,000 zombie companies in the UK on the brink. This equates to nearly eight percent of UK trading companies.

What can you do to ensure that you don’t fall foul of the curse?

Credit Control

The best line of defence is to avoid unpaid debts/undelivered goods in the first place. A robust credit control policy and credit limits for all customers should be a mainstay of a well-run company.

Firstly, consider taking out credit insurance. This is becoming increasingly popular, but exclusion clauses need to be carefully reviewed.

Use a carrot and stick approach – the carrot is a discount for early settlement and the stick is interest for late payment.

It’s worth registering at Companies House for their web watch service in order to monitor filings from key suppliers and customers. Use this information to chase down unpaid debts and make sure commercial partners know you will not be fobbed off.

If you’re in a hole, don’t keep digging or be afraid to call a customer’s bluff by putting them on a stop list. Insist on payment for the remainder of the goods if a customer questions part of an order and get to know the cheque run dates of key debtors. Ring them up the day before and make sure your invoice is included. Alternatively, insist on post-dated cheques or personal guarantees from directors/shareholders if a customer can’t pay.

Retention of Title (RoT)

For businesses that are a supplier of goods, a RoT clause should be an essential part of the terms and conditions. It needs to be properly incorporated into commercial dealings, so it’s important that the customer signs a copy of the terms at the outset. It’s just as important to ensure that the terms are then included on all purchase forms/invoices.

Ideally, an RoT document should have sub-clauses that oblige the customer to store the goods separately, label them as belonging to the supplier and include a right to enter the customer’s premises to check these provisions have been complied with and/or to recover goods.

RoT clauses should be enforceable on non-payment, without having to wait for a formal insolvency event. RoT should include an all monies clause.

This may allow recovery of all goods even if some individual invoices have been paid.

However, the goods being claimed under a RoT clause must still be capable of identification and a supplier must be able to link them to specific invoices. The goods should also be marked with the name of the supplier, with serial numbers deployed and quoted on relevant invoices.

Keep it confidential

You may have concerns over a supplier/customer, but it is not a good idea to broadcast these. In one of the earliest cases involving use of emails, Norwich Union were held to be vicariously liable for alleged defamatory comments made by its employees about Western Provident Association (WPA). Norwich Union employees were using the internal intranet to circulate emails amongst themselves alleging that WPA was in financial difficulties and that the then DTI was investigating WPA.

WPA discovered the emails, obtained an order directing Norwich Union to preserve them and produce hard copies. It later obtained a further order allowing it to conduct a search of Norwich Union’s email records. The case was settled out of court by means of an apology and damages (reportedly £450,000 plus costs).

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