MERCREDI 18 SEPTEMBRE 2013 EDITION 147 | CAPITAL
The Bank has also to be aware of any resistance of the management to change past practices and must not take at face value of the obvious response that the financial difficulties are temporary and the company will trade itself out of its predicament restructured their debts. Examples would include cross firing, overtrading, management resistance, unpaid cheques or direct debits among others. Cross firing occurs when a customer exploits the time taken to clear fund through an account. The customer would draw a cheque on one account (Account A) and pay these cheques into Account B. The bank allows the customer to draw monies from Account B before the cheque is cleared. Typically there will be no chance of the cheque drawn on Account A being paid. The warning signs of cross firing are: quick increase in turnover, deposit of cheques in round amounts and the payee and drawer of cheques are the same. Overtrading is a situation whereby a business expands without sufficient financial support. Expansion usually results in an increase in sales, although there can be start up businesses that incur costs and run out of money prior to commencing trading. Overtrading may only occur for a short period or more seriously it may prove endemic. An example of short term overtrading would be where staffing, production and stocks are increased in anticipation of higher sales so that when the additional sales eventually materialise the positive cash flow of the business is restored. An example of an endemic overtrading would be where the sales figure increases quickly but the business does not have sufficient capital to fund the increase in working capital requirement, such as additional stock and direct costs incurred before funds are received from creditors. It can be difficult to recognise when a business is overtrading before it runs into significant cash flow problems. An approximate test as to whether a manufacturing company is or is not overtrading might be using Test A and Test B, which are completely outside the scope of this chapter, however. The Bank has also to be aware of any resistance of the management to change past practices and must not take at face value of the obvious response that the financial difficulties are temporary and the company will trade itself out of its predicament. This is rarely the case where there are unrecognised fundamental problems and an unwillingness to change past prac-
tices. Too many companies have been milked of profits through the owners taking out capital in the form of excessive salaries or dividends. When trading returns and cash flow drop, there can be a resistance to reinvest money into the business if it is easier for the bank to meet the shortfall. The bank must look upon each new application for support as a new proposal and judge the situation at the time on its merits. The short answer to unpaid cheques or direct debits is never to refuse to meet a cheque or direct debit presented for payment outside the agreed limit of the cus-
tomer’s credit without referring to the customer for an explanation. This assumes that the customer can be contacted that day for an explanation and that all previous conduct of the account has been exemplary. If there have been previous problems for the customer in meeting presented cheques and/or problems for the bank in obtaining suitable explanations as to the customer’s conduct, then the customer has presumably been forewarned that a credit limit is agreed on and cheques over this limit in all likelihood will be refused. The Bank should be aware that to refuse an item may lead to the company losing public credit status and possibly being drawn into liquidation, which in turn may be the prelude to legal actions for compensation. In the circumstances, the bank should review the past conduct of the account and make a reappraisal of the conditions of the support. This may lead to taking additional security for increasing the credit limit, providing advice on future running of the account or limiting the credit to be made available within a programme of redemption of outstanding loan balances.
The frequency with which a company’s account is reviewed must depend on the circumstances of the company’s case. Accounts may be reviewed annually where there have been no problems for some time and where the bank can assume, without asking that any financial difficulty or changing circumstances will be promptly notified by the company
Published on Nov 4, 2013