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TIPS FOR PROTECTING YOUR BUSINESS AGAINST A CUSTOMER GOING BUST
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We are currently experiencing what the Prime Minister says is the longest period of growth in the economy since the 1960s. The Government’s focus is on building infrastructure to support growth, with a plan to invest $32.5 billion in infrastructure in the next four years.

Aecom’s annual survey, released in June, shows positive sentiment across the infrastructure sector, but that confidence in the buildings market has softened, with issues around funding, rising building costs, and a labour crunch, all pointing to a more conservative outlook going forward. 

As one of our clients recently remarked, the boom times are not always the good times. Growth comes with its own challenges and there will be some businesses that will not keep up with the pace of change. When there is lots of work on, under-capitalised companies may struggle to manage their cash flow. If the civil construction industry experiences a downturn, you will want to make sure that your business is as prepared as it can be to weather the storm. When it comes to dealing with insolvency, like most things, prevention is better than cure.  

This article looks at eight things that you can do to protect your business against a customer going bust. Not all of these things will apply to every business, but they are useful tips to better manage customer exposure.

1. Have good terms and conditions – and update them frequently

Have good terms and conditions that are robust, enforceable and protect your business. Your terms should be part of your contract and they should make it clear when you expect payment, and what will happen if payment is not made.  They should also limit your liability for when things go wrong.  

Make sure your customer signs your terms. In some cases, you will be on jobs when there is pressure to accept another’s party’s terms. If that is the case, read those terms carefully and think about whether you can negotiate around terms that are too much in favour of the other party. You may be surprised what you can achieve.

2. Have CCA-compliant invoices

Have Construction Contracts Act compliant invoices. If your invoices are not CCA payment claims, then you will not be able to rely on the helpful mechanisms under the Act to push for and enforce payment, as well as the right to suspend work for non-payment. For example, do you always attach to each payment claim you issue the required ‘Information that must accompany all payment claims’? If you don’t, your payment claim is non-compliant and can’t be relied on under the CCA. Give yourself a leg-up by making sure your invoice design matches the requirements of the CCA. Please click here to go to the CCNZ website and see more information about payment claims.

3.  If you are supplying goods on credit, take security - and recognise when security interests are in play

A security interest is broadly defined and knowing that you have a security interest is usually half the battle. Title to assets may not be enough. If you:

  • have a claim to equipment or materials located elsewhere; or
  • expect an asset held by a customer that goes bust to be returned to you by a receiver or liquidator,

then you may have a security interest and, under the Personal Property Securities Act (PPSA), this interest could be vulnerable to claims made by other creditors.

Contractors have lost their rights simply because they were not aware that their arrangements were caught by the PPSA. A number of transactions in the contracting industry will give rise to a security interest, including:

  • Loaning, leasing or licensing equipment as part of a supply arrangement.
  • Giving another party rights to hold or use equipment.

A common trap is the lease for a term of more than one year. This lease is a deemed security interest and the lessor should register its interest in the equipment on the PPSR.

So, if you know you’ve got a security interest, what can you do to protect yourself?

  • First, make sure your security interest is enforceable. A security arrangement must be in writing, signed and contain an adequate description of the assets to which you have a claim.
  • Second, register on the PPSR. Failure to register on time could mean that another creditor’s claim to the same assets could rank ahead of your claim. Registration is cheap and could save you a whole heap of cost and trouble in the future.  

A recent Australian case highlights the importance of registration. General Electric leased four generators to Forge Group, which subsequently went into liquidation. Forge Group’s liquidators claimed that GE’s interest in the generators fell within the scope of the Australian PPSA, because the lease was for more than one year and, as GE had not registered on the Australian PPSR, it forfeited its interest in the generators.  

GE argued that the generators were not caught by the PPSA, as it wasn’t regularly engaged in the business of leasing (both New Zealand and Australia have this as an exception to the rule deeming leases for more than one year to be security interests) and that the generators were fixtures, so were part of the land they were placed on and were therefore not caught by the PPSA.  

The New South Wales Supreme Court agreed with the liquidators and GE lost the generators. For want of a $6.80 registration fee, GE lost assets worth $60million.

(In New Zealand, failure to register a security interest on the PPSR does not result in the interest being wiped out if a debtor goes into liquidation, but registration is important, because it determines priority of claims.)  

  • And, third, look after that registration, because financing statements expire after five years and need to be updated if a customer changes its name or goods are transferred to another party. Failure to maintain a registration could result in a loss of priority.


4. If you can, get a guarantee

Directors and others are reluctant to grant guarantees because doing so can defeat the purpose of operating a limited liability company. But a guarantee can be vitally important, especially if you are dealing with a special purpose vehicle set up for a particular development with no assets, or if a developer or head contractor has a history of not making prompt payment. To be effective, a guarantee must be in writing and signed by the guarantor.  

5. Know your customer

Read the signals of financial distress or insolvency, whether they be late payments, high employee turnover, changes in governance or management, or not returning calls. Know your off ramps in any customer relationship. Don’t get caught throwing good time, effort and money after bad.  

Knowing you customer is particularly important if you are caught up in the new retentions regime. Make sure you have visibility over the monies that are being held in trust for you. Ask to inspect records if this gives you more comfort – you have this right under the CCA retentions regime. Last but not least, if the retention holder has elected to use an alternative complying instrument, know what this instrument is, and check regularly whether it is still in force.

6. Take steps to protect your business from clawback by a liquidator

As the Government’s Insolvency Working Group recently recognised, voidable transactions are an emotive topic and setting the balance between:

  • business certainty and fairness to individual creditors who have received payments for their hard work;

and

  • the collective right of creditors to recover equally in a liquidation,

is very difficult to do.  

The civil construction industry has been hit hard by clawbacks, but the good news is that help may be on the way. The Insolvency Working Group has made recommendations to the Government which, if implemented, will limit the ability of liquidators to claw back payments.  

In particular, under the proposed reforms, liquidators would only be able to pick on transactions made six months before a company goes into liquidation and, instead of having six years from their appointment to take action, will only have three years.  

Given that this is election year, and insolvency law reform is not a topic that drives voters to the polling booths, it could be a year or two before these reforms see the light of day, if they are adopted.  

So, what can you do in the meantime to protect yourself from clawback claims? There is no magic bullet solution, but some of things you can do are:

  • Take security – then you may be able to argue that you have not been preferred among unsecured creditors.
  • Get a guarantee, so that you can argue that you have been paid by a third party.
  • Get paid in advance or on delivery, so that you are not a creditor – easier said than done in most industries.
  • Or get paid out of a trust fund established pre-insolvency, which will not be practical in all circumstances.

None of things are a perfect way to future proof payments from clawback, but they may be enough to deter a liquidator and convince her or him that you are not a soft target.

7. Establish credit limits and stick to them

Carry out credit checks, establish credit limits and stick to them. Don’t let credit-creep become a part of your business. If you are not paid, or payment is late, take prompt action.

8. Dot your 'i's' and cross your t’s

Last but not least, have good document hygiene. Make sure your deals are documented and signed. Do company searches and use correct company names. Be wary of trading trusts or other business structures that seem unduly complex. Have signatures witnessed if necessary. Keep contracts in a secure place and, in general, keep good records.  

Have a system for amending financing statements if a customer changes their name or your asset is transferred to another party, in which case you will need to register against that party (something that is particularly important when dealing with company groups).

Conclusion

As CCNZ’s chief executive Peter Silcock has recently observed, the contracting industry is in a huge growth phase and opportunities abound. Resource constraints will cause casualties, however, and the way you prepare your business now will have a big impact on your ability to respond to the insolvency of a counterparty.  

This article is adapted from a speech made by James McMillan to CCNZ’s AGM on 26 June 2017.

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