With so many retail collapses recently, it poses the question of what warning signs business leaders should look out for to determine whether a key supplier or customer is heading for disaster.
In a matter of just weeks, Aussie Farmers Direct, Doughnut Time, Zachary The Label and Kangaroo Tent City & BBQs have all gone under, while there have been concerns around the viability of ASX-listed companies Retail Food Group and Myer.
The good news, according to ASIC’s annual review of corporate insolvencies, is that the number of business failures fell by almost 18 per cent last financial year.
Yet that doesn’t mean business leaders can remain complacent. Their own business, or one that they operate closely with, may have telltale signs that a call for administrators may not be far off.
Additionally, insolvencies and bankruptcies are actually on the rise among private individuals.
According to Mark Hoppe, managing director, ANZ, of credit insurance and debt collection agency Atradius, there are 10 common warning signs that a business may be in trouble.
However, he said these are not guaranteed markers that a business is going to fold, and as such context is crucial in determining the relevance of some or all of these indicators.
1. Too much debt
“If a company’s operations are mostly funded by creditors instead of the business owners, and it may have some difficulty servicing that debt, then it is under stress and may not be a valuable business partner,” said Mr Hoppe.
According to Mr Hoppe, overexpansion can quickly lead to cash flow troubles, even for experienced operators. This then leaves them running the risk of taking on large amounts of debt in a bid to keep the business going.
3. Lack of clarity
Clarity around what the business is trying to achieve is critical to its ongoing success.
“If it’s not clear what the business does or how it generates cash, there is likely to be a significant amount of risk,” said Mr Hoppe.
“These types of businesses should be avoided.”
4. Qualified accounts / going concern commentary
“Qualified accounts are audited accounts where the auditor has doubts or disagreements with the firm’s management,” Mr Hoppe noted.
“Going concern commentary is not as serious as qualified accounts but it can be a sign that the auditor is protecting themselves from litigation but is still signing off on the accounts.
“This is a huge red flag; don’t do business with a company showing these warning signs.”
5. Profit warnings
Profit warnings are most commonly the domain of listed companies. According to Mr Hoppe, they are “the clearest sign that a company won’t meet its earning expectations and could be a signal that the business may be in trouble”.
6. Profit versus cash flow
Mr Hoppe said that it is important to differentiate profits from cash flow, as current profitability is not an accurate measure for determining the ongoing viability of a business.
He suggested that strong profits but little cash flow could indicate problems lurking behind the scenes, and can even be “a sign of dodgy accounting practices”.
7. Irregular payments
Another common indication a business is in strife is its payments become irregular – even if they make sizeable lump-sum payments at ad hoc intervals.
“It’s a sign the company’s cash flow is compromised. Deciding to continue doing business with a company in this situation can depend on past payment history, current relationships, and the reasonable likelihood of the business getting its cash flow back on track.”
8. Unstable leadership
Aside from finances, instability among a business’ management team and senior employees can indicate problems. Beware of a significant turnover among senior member of staff and management.
9. Trappings of success
“When directors have high-end, brand-new cars, computer systems, and furnishings, it can be a sign that directors are rewarding themselves at the expense of the company,” warned Mr Hoppe.
“By itself, this isn’t necessarily a sign of trouble, especially if cash flow is strong and the company is meeting all of its payment obligations.
“However, taken in conjunction with other signs on this list, this could be a red flag.”
10. Late filing of accounts
Finally, Mr Hoppe suggested that it pays to dig into a company’s history of lodging documentation.
“If the company files its accounts late, it could be a sign of general disorganisation or it could indicate that the business had trouble getting an auditor to sign off,” he said.
Adam Zuchetti is the editor of My Business, and has steered the publication’s editorial direction since early 2016.